Sunday, July 22, 2012

Is Cash Really a "Safe" Place For Young Investors?

Nowadays it isn't hard to find proof that younger investors are hesitant to put their money into the stock market, much less do any investing at all. A recent study conducted by T.Rowe Price at the end 2011 found that only 22% of twenty-somethings have confidence in the market. Only 55%
were optimistic about investments in the next 12 months. Only 39% were confident that the will have enough money for retirement. And only 35% have a detailed retirement plan. The study concluded that fewer investors in this age group were planning on contributing to their individual retirement account in 2011 than in the previous year, in part because of this lack of confidence in the markets. Furthermore, for those that are investing, we are seeing higher percentages of their investable assets in cash rather than in stocks. You can see evidence of this negative trend wherever you turn, whether it is through the media or around the water cooler at work.

It also isn't hard to find reason for their hesitancy. I mean the average annual return for the S&P 500 last decade was a stark minus 0.95 percent! Moreover, many younger investors have either seen first-hand from their parents or heard of their friend’s parents having their retirements ruined by the latest Great Recession. By coming of age during this period of turbulent economic times, you can probably understand how they may have been turned off from stocks for good.

However, these negative trends are alarming, especially for the younger investor, because time, which they potentially have a lot of, is the most important deciding factor in how much money they will have to live off of later in life. Of course, past performance is not a guarantee of future results, but over longer periods of time, equities have tended to do well. The average annual return for the worst 30-year period for the S&P 500 was 8.5 percent.

Morningstar did a study that I found fascinating: They assumed that a 25-year-old who earns $40,000 today would save 15 percent of his salary every year for the next 40 years. His salary would grow annually by the rate of inflation. And he would invest the money in a portfolio that started off with roughly 90 percent in equities that would gradually shift to a mix of 50 percent stocks and 50 percent bonds by retirement.

Then they asked the question: What if the investor got the worst possible outcome in the market while he saved over that 40 year period? By assuming the worst-case-scenario, his portfolio would grow to $651,400. When asking the same question, but this time assuming the best possible outcome, they figured that the investment would have grown to $3.5 million!

Then they asked, What if he stayed in cash the entire time? Well, under the best case scenario, he would have accumulated only $555,200 or nearly $100,000 less than the amount he would be able to retire with in the worst stock market scenario.

The pendulum swings both ways. The market goes up and the market goes down in very unpredictable ways and that is one thing that you can be sure of. However, when talking about long term investing, especially for young people and despite the recent happenings in the stock market, you will have the greatest potential for future winnings by getting in and staying in the market with equities. Don't lose out later in life by being "safe" today.

I'm so excited to share this information with you. If you have enjoyed the information or feel that it would benefit someone else, please share it. If you have any comments, please post them below, otherwise, feel free to contact me.
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