You might be a lot closer to $1 million than you think.
Having $1 million in retirement savings might sound like a far-off dream, but the truth is the first $100,000 is the hardest.
Hustling to build a $100,000 investment account is a huge milestone. Famed investor Charlie Munger once told a young attendee at a Berkshire Hathaway shareholder meeting in the 1990s that once you have $100,000 you can "ease off the gas a little bit." That is to say, once you have this amount, compounding can take care of a lot of the work for you.
That doesn't mean you don't have to keep putting in effort and work to grow your nest egg. It just means it'll come a lot faster than you might expect. Here are three ways to grow $100,000 into $1 million for retirement.
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1. The simplest path from $100,000 to $1 million
Investing doesn't have to be complicated. You don't have to be some trading wonk who dives into annual reports and stock charts. If that stuff doesn't interest you a whole lot, it'll be hard to outperform investors who read SEC filings just for fun.
The simplest way to invest your money is by using a simple broad-market index fund. An index fund that tracks the or a total stock market index typically has low fees, and it's going to closely match what the overall stock market returns.
A few examples of great index funds are:
- Vanguard Total Stock Market ETF (VTI -0.82%)
- SPDR S&P 500 ETF (SPY -0.70%)
- iShares Core S&P 500 ETF (IVV -0.71%)
All of the above have expense ratios of less than 0.1% and do a great job of tracking the index they benchmark. Those two things will ensure you get similar results to the overall market.
And if you think this is a cop-out, consider this. Over the last 15 years, . Those are the professionals who get paid handsomely to outperform the market. And they can't consistently produce results year after year good enough to justify the fees they charge. So, sticking with an index fund is a good bet for most.
If you put $100,000 to work in an S&P 500 index fund, and it returns its average 6.5% real compound annual return, it'll take less than 37 years for you to reach $1 million in today's dollars.
2. Small-cap stocks
Small-cap stocks outperform large-cap stocks in the long run, so adding more small-cap investments to your portfolio can help boost returns.
Over the last 30 years, the small-cap focused S&P 600 has produced a compound annual return 33 basis points higher than the S&P 500. And it can outperform much more in the early days of a bull market.
You might not know it based on the recent performance of megacaps like the "Magnificent Seven," but the reason small-caps have the potential to outperform is because it's a lot easier for a $300 million company to grow to a $3 billion company than it is for a $300 billion company to grow into a $3 trillion company. Not every company can be Apple or Microsoft.
But when you invest in what sounds like a well-diversified index fund like the Vanguard Total Stock Market ETF, you're mostly buying large-cap stocks. That's because the fund is market-cap-weighted. Nearly 16% of the entire fund is invested in Apple, Microsoft, and Alphabet, Google's parent company. The top 10 holdings account for over 28%.
Small-cap stocks are generally riskier than large-cap stocks. What makes them outperform in the long run (their small size) also makes them more volatile. Luckily, adding small-cap stocks can be done with an index fund, which can mitigate the risk of investing in individual companies. Additionally, focusing on profitable small-caps, like those found in the S&P 600,has been shown to improve returns.
A couple of small-cap index funds to consider:
- Vanguard Small-Cap ETF (VB -1.17%)
- SPDR S&P 600 Small-Cap ETF (SPSM -1.14%)
Even boosting your portfolio returns by a few basis points can cut years off your journey from $100,000 to $1 million. Small-cap stocks are one way to do that.
3. Dividend growth stocks
Another class of stocks that's historically outperformed the overall market is dividend growth stocks. In the 50 years from 1973 through 2022, companies initiating and growing a dividend produced a compound annual total return of 10.24% versus just 6.6% for those that never changed their dividend policy.
A dividend growth stock is consistently profitable and grows those profits enough over time that it can raise its dividend paid to shareholders most years. And if you reinvest those dividends every year, you can end up with a substantial income-producing portfolio over time.
Investing in dividend growth stocks can be a winning strategy even if you don't plan to live off those dividends in retirement. Again, if you don't want to pick individual stocks, you can add exposure to dividend growth stocks with an index fund. Some examples include:
- Vanguard Dividend Appreciation ETF (VIG -0.98%)
- WisdomTree U.S. Quality Dividend Growth Fund (DGRW -0.87%)
The nice thing about dividend growth stocks is that they make it easy to stay the course. Even if the stock price moves up and down, a steady dividend increase can assure you the underlying businesses are producing positive results for investors.
If you want to grow $100,000 to $1 million by the time you retire, you'll want to invest in a broad portfolio of stocks. And while you can get there by just putting $100,000 into an index fund and waiting, you'll get there a lot faster if you continue to add to your holdings every year.
If you've already done the hard part -- the first $100,000 -- the path to $1 million is pretty straightforward.
Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. Adam Levy has positions in Alphabet, Apple, and Microsoft. The Motley Fool has positions in and recommends Alphabet, Apple, Berkshire Hathaway, Microsoft, Vanguard Index Funds-Vanguard Small-Cap ETF, Vanguard Index Funds-Vanguard Total Stock Market ETF, and Vanguard Specialized Funds-Vanguard Dividend Appreciation ETF. The Motley Fool has a disclosure policy.
