The power of Compound Interest, the stock market, and your 401K plan

[Trauma-san]

How many of you guys are getting into Investing?  I'm amazed once I looked into it the last few years of how this shit works. 

I found a story of this guy and his estate plan. 

He a few years ago had a grandson.  He set up his finances so that he could give his baby grandson a gift of 10,000 dollars.  His grandson kept the money for 31 days (legally).  Of course his parents were all in on this and everything, etc. 

He then had his grandson put the money into a variable annunity trust.  The money basically is sitting in a bank.  the terms of the trust are that his grandson can't touch the money until he turns 65, so the money will sit in this trust for 65 years.  All the dividends of the variable annuity are reinvested into the account, and the tax is defferred. 

The equity funds he invested the money in have grown at a rate of 11 percent a year, historically.  If they continue at that rate, his 10,000 dollars will have grown to 10 million dollars by the time his grandson reaches 65.  Now keep in mind though that inflation will have grown by then as well, so 10 million dollars when the kid retires won't be the same as today, but still it will be quite a large sum of money. 

The guy has the trust set up so that when his grandson reaches 65, he will be given yearly payments equal to 7% of the total of the trust fund.  So what's that, about 700,000 dollars each year.  Again though with inflation it won't be that kind of mad money, but it'll still be a very large sum of money each year.  With the 7% disbursion the money will still be growing at an average of 11%, so the money will actually still be increasing, while he all the while is receiving payments from it.

Finally, when his grandson dies, the money is set up to be donated to tax exempt charities.  If his grandson lives to be 85, he will have collected more than 700 grand a year for 20 years, and there will be 20 million dollars donated to charity upon his death.

The way he did it was he combined the youth of his grandson with the financial capital of his own life of work.  So he spent 10,000 dollars, and used 65 years of his grandson's life to accomplish the financial goal.  He doesn't have 65 years to wait around and donate 20 millioin dollars to charity, but his grandson does.  Likewise, his grandson doesn't have 10 grand to get this rolling, but his grandfather does. 

THIS is how people get extremely rich, not by cheating people out of money like the victims among us sometimes claim. 

[Trauma-san]

Oh, with inflation at 3% for 65 years, that would make that 700,000 dollar payment the kid recieves at 65 worth about 135,000 dollars in 'today's dollars'.  Still a very comfortable retirement. 

[Ant]

Oh, with inflation at 3% for 65 years, that would make that 700,000 dollar payment the kid recieves at 65 worth about 135,000 dollars in 'today's dollars'.  Still a very comfortable retirement. 

Oh yeah... retiring at age 65 with $135,000 assuming you live another 20 years leaves you with an extraodinarily comfortable $6,750 to spend a year plus Social Security money which the current administration wishes no longer existed.

The unfortunate thing is most people won't even retire with this much.  I know plenty of people approaching retirement age that are either in debt or have nothing saved.  They end up having to work and work until they die basically, or retire and live off social security.  Most of the people I work with don't save money in their 401k, or if they do, end up borrowing against it anyways.  Of course these are issues that don't really get a lot of attention.  People keep them hidden - no one wants to talk about how broke they are, or how much debt they are in... so we just keep borrowing and borrowing and the problem is ignored.

[Trauma-san]

Hello;
  When you learn to fucking read, come back and reply.  700,000 each YEAR.  PERMANENT. 

The problem isn't the government, the problem is people know nothing about finance.  You just proved it by failing to follow the simple example of interest and annuity I posted above.  Educate yourself and maybe you won't have to worry about George Bush holding your hand through it. 

[Don Rizzle]

good luck finding anything to garentee 11% a year, what are US interest rates? isn't it around 2%? i know you could invest in stocks n shit but they can go down too

[J @ M @ L]

Investing is the best thing you can do with your money... no doubt about it. Like you said... some people don't know about finance... but another problem is that a lot of people don't even have the money to invest. Take all those people working for minimum wage (or a little above)... supporting families... after they pay off their rent/mortgage, put food on the table, and pay for other necessary living expenses.... they don't have jack-shit left over.

[Trauma-san]

Yup.  I would say to that, working for minimum wage the rest of your life is not a very good game plan. 

Don Rizzle: The stock market itself has averaged over 11 percent since inception.  Carefully chosen mutual funds can easily offer 11% returns, in fact most of the big players have almost perfected strategies to earn nearly 15% returns with minimal risk.

you're right about the stock market being risky, but like any mathematical equation there are standard deviations in return rates and you can estimate and calculate, and compensate for all that.  The #1 thing that takes the risk out of the stock market is time.  this guy is investing for 65 years, so it's an extreme example. 

[Ant]

Time does not take all risk out of the stock market, and like you pointed out this is an extreme example that no one on this site will be able to take advantage of.

We all have at best 30-40 years before retirement - not 65.  But the stock market will not garantee you an 11% return over time.  For a 30 yr period the market will garantee you with 95% certainty an inflation adjusted return between 2.6% and 10.6%.

[TraceOneInfinite]

Interesting thread... I can't do anything you suggested because interest/usury is a sin in Islam... but still this was all an interesting read.

[nibs]

135k a year really isn't alot of money.  nothing you'd want to live off if you had a family.  as a bachelor you could ball out.

seriously, the kid gets 10 million at 65?  that ain't shit.  really isn't shit.  65 is fucking dead.  who seriously cares about how much $$$ 65 year olds have.  what that tells you is that it takes 4 or 5 generations for compound interest and investing to turn a small sum of money into they type of wealth that can support a family in order to live richly.  it's the grandson's kids that can benefit from that money in any interesting way, and again, 135k/yr is decent for a bachelor, or a young couple with no kids.  you throw kids in the mix and you're trying to budget that paltry sum

[nibs]

Investing is the best thing you can do with your money... no doubt about it. Like you said... some people don't know about finance... but another problem is that a lot of people don't even have the money to invest.

that's a myth, perpetuated by large corporations.  investing is giving corporations your money to spend now, for paltry gains later.  unless you can get microsoft or google at the ground floor, it's overrated.

a better thing you can do with your money is invest in yourself.  use your money to develop and realize your dreams, start your own company/business, and then use your money to grow that business.  be an entrepreneur.  let your money create wealth for you now, as opposed to going to someone else and giving you a small fraction of the wealth generated later.

the problem for most people is if you don't force them to save, if you don't take money out their paycheck and invest it for them in some 401k plan (with matching funds or something), they'd just spend that money foolishly and do nothing with it.  investing is clearly better than spending that money on foolishness.  investing is clearly better than saving the money.  and there are ways to set aside money so that it is invested and ends up being taxed less than had it been accepted as salary.  but for the most part, people should be investing in themselves, and looking towards entrepreneurial opportunities.  which the internet and modern communications and shipping have lowered the entry bar significantly.  don't listen to that grover norquist "everyone should own stocks" bullshit, because really it's just giving your money away, for someone else to use...

[J Bananas]

before you invest learn the difference between a liability and an asset. if u think puttin money into a car or a house will help you, you are going to be very disappointed unless u plan on flippen them really quick for a higher number.

[nibs]

before you invest learn the difference between a liability and an asset. if u think puttin money into a car or a house will help you, you are going to be very disappointed unless u plan on flippen them really quick for a higher number.

just to be clear, you are not directing that at me, because i never told people to buy cars.

houses are some other shit, if you own a house/property, that is certainly an asset and an investment.  property values rise quickly, the money you put into the mortage you can get back out easily by refinancing if you needed the money.  the only people that tend to lose money on houses are people that simply can't pay their mortgage and get foreclosed.  actors that put together ridiculous dream houses and can't afford to keep them up, and can't find a buyer willing to pay top $$$ for someone elses dream...
your advice about houses is wrong.  buying property, keeping it in the family is one way that family estate values can grow over time.  just think about that shit.  if you have a house paid off all you need to pay from then on is property taxes.  if you ever need money that home is collateral, you could take out a mortgage on it...etc.  property == $$$.  property == wealth. 

cars are similar to a lesser extent.  rare shit, collectors shit, shit that is kept up in pristine condition can pretty much be sold at top dollar and often for a profit as well. 

clear liabilities, clear waste is shit like: flat screen tv's, and playstations and silly shit like that  throwback jerseys (that aren't autographed) and basketball sneakers are a waste.  you buy that shit, it depreciates in value immediately.
cars depreciate in value very quickly unless you buy them specifically to maintain in pristine condition...etc.
houses/property are not a waste.  their value appreciates.  get some.

cats that are flipping houses are on some other shit.  shit is only a problem if you have too many properties, too many mortgages, and don't have the cash flow to cover it.  as a long term investment, property is always a win.  short term it depends on how you manage it.  if you want to become a landlord, you can move people in.  i know cats that lease houses to drug dealers and strippers, individuals that don't have the legitimate credit and income to actually buy property, but have the cash to pay the bills.  there's a lot of shit to do in real estate.  you can hold on to it/speculate, you can do the landlord thing, you can flip it.  property is a legitimate investment.

if you are telling people to invest in a 401k instead of buying a house...that's shaky logic.

[Twentytwofifty]

I think it's pretty clear that "nibs" doesn't know what the fuck he's talking about. 

hahahaha @ "135k a year really isn't alot of money.  nothing you'd want to live off if you had a family."
...with 135k, money might be tight if you have the kids in private school, give them 360s, buy them designer clothes...
I'd LOVE to grow up with my fam making that kind of money.

[7even]

you mean 135k in cash or untaxed?

my father made WAY less money anyways.. 6k a month, then it got taxed down to like 3,2k, then you have like 40k each year.. and that was in deutsch mark in dollas it be like 25k lmao... and now that he's retired he gets far less money of course; but we still able to pay the rent, get food, buy gas for the car, and have pay tv... and high speed connection internet of course  .. I wouldnt call us poor.