The Significance of Time in Investing
Time is one of the most crucial aspects of investing, as it amplifies the power of compound interest. However, as discussed in the first part, there are many valid reasons why most people don’t start investing early.
This doesn’t mean it’s too late. While time is important, it isn’t the only variable in the compound interest formula. Other factors also play a significant role, such as emotional management, risk tolerance, consistency, and discipline.
Misconceptions About Timing
Many people have a skewed perception of time. They often ask if today is the “right” time to invest in stocks or other assets. The reality is that you can’t predict what will happen even tomorrow, let alone next month or year. What seems like a “good time” today might turn into a “bad one” if, for instance, the start of a war is announced.
Timing matters in the sense that it’s better to buy a stock when it’s undervalued by the market and sell when its price is high. That’s how gains are made.
Ironically, most people do the opposite. They’re interested in things that have already risen significantly. For example, there’s renewed interest in acquiring metals like gold and silver today not because they’re cheap or on discount, but because they’ve had a significant rally and are at historical highs. This is how human psychology works.
So, instead of asking if it’s a “good time,” what matters is how long you stay invested.
Even if you invest at the worst possible time, if it’s a good investment, there’s a high probability its value will significantly increase over the long term.
The Importance of Good Investments
The key is to make a good investment. This could be a financially sound company that’s a market leader with ample growth potential.
However, most people feel safer investing in a diversified group of such companies. This is where index investments through low-cost ETFs come in.
The S&P500 index, which includes the 500 largest U.S. companies and has historically produced good returns, has become popular. However, it doesn’t include many smaller companies or those from other regions like Europe, Asia, or emerging markets.
This is why I personally prefer focusing on a broader, more global index. You can’t truly know what the future holds (past performance doesn’t guarantee anything).
Some individuals prefer to select their own collection (choosing specific companies or certain indices and creating a personalized portfolio). It’s all fine if you know what you’re doing.
Regardless, timing matters little because the market doesn’t grow in a straight line. There are cycles of ups and downs, some of which can take many years. But if the global economy continues to grow, the long-term trend will generally be positive, regardless of when you start investing.
Consistency and Long-term Commitment
The two main components of compound interest are time and returns. To illustrate this, let’s use the famous “Rule of 72,” a quick estimate of how many years it takes for invested money to double given a return rate.
I prefer using a real (above-inflation) return rate because it better visualizes the growth of our purchasing power.
Historically, a global diversified index has had a real return between 5 and 6 percentage points above inflation. Although there are no guarantees, this would be our expected return.
The Rule of 72 is simple: divide 72 by the expected return rate. Let’s take 6%. 72 divided by 6 equals 12.
This means, for example, that if you invest 100,000 pesos at a real annual return rate of 6%, the purchasing power of that money will double in 12 years.
It might seem like a long time. But if you’re in your 30s or even 40s, you still have decades until retirement. Don’t delay any further. Start today and add consistently, every two weeks or each month, to your investment with consistency, discipline, and constancy.
Key Questions and Answers
- Is it too late to start investing if I didn’t begin early? No, time isn’t the only factor in successful investing. Returns and other aspects like emotional management and risk tolerance also play crucial roles.
- When is the ‘right’ time to invest? There’s no definitive answer. The future is unpredictable, and what seems like a good time today might not be tomorrow due to unforeseen events.
- Why is timing less important than staying invested? Timing matters in buying low and selling high, but staying invested for the long term, regardless of market fluctuations, is more critical.
- What makes a good investment? A financially sound company with market leadership and growth potential can be a good investment. Diversified portfolios through low-cost ETFs are also popular.
- How does the Rule of 72 help in understanding compound interest? The Rule of 72 is a quick estimate to show how many years it takes for invested money to double based on the return rate. Using a real (above-inflation) return rate provides a better understanding of purchasing power growth.
