This statement is
one that you have probably heard hundreds of times; from the first time you
encounter money you are told to ‘put some away for a rainy day’ and from then
on you have most likely been told to put some money away for the future on
countless occasions. However, have you ever actually sat down and weighed up how
much you can benefit from offsetting some consumption today in return for a
firmer financial footing later in life?
The main benefit of
saving earlier rather than later is Compound Interest, dubbed the ‘8th
Wonder of the World’ by the great Albert Einstein. This is where the interest
you earn in the first period can earn interest in the second period as well as
the initial deposit, and then all the interest earned in the first two periods
can earn interest in the third period and so on and so forth. This can have a
profound difference on the final value of savings down the line when compared
with simple interest, as an example, savings of £10,000 over 20 years with a 5%
interest rate would return £20,000 under simple interest, whereas the same sum
would return over £26,000, no small difference when worked out as a percentage
and the effects are amplified when you increase the rate offered or the time
the savings are left for.
I think one of the
best ways to show the benefits of saving earlier rather than later is to do a
direct comparison of two people that save the same amount of money but over
different time periods. I will take the case of two people that are saving for
retirement, one saver starts at 20 years old and the other is a bit late to the
party (but not later than a lot of people actually start saving for their
retirement) and starts at 40 years old. They were both aiming to retire at age
60 and so the organised saver put £100 away per month for 40 years and the late
saver put £200 away for the 20 years he had left before retirement, meaning
they have both put away £48,000 apiece. If they both invest their money and get
an average return of 7% per year (the amount Warren Buffett says the stock
market should return), the person who invested for 40 years would end up with
£265,000 compared with the second person who would end up with just £105,000!
This is a staggering difference and again highlights the benefits of getting
money invested early in your career rather than leaving it until later.
There are other
benefits to saving early as well as financial, the additional peace of mind it
gives you to have something tucked away for when life throws an unexpected
incident your way is hard to put a price on. It doesn’t have to be difficult to
save either, even a small amount per month adds up quickly over the course of a
year or two, it’s a good idea to have a savings target that you can build up
to, first putting away a small amount per month then building up until you
reach the target.
Hopefully this
article will encourage people to start early.
Author: This article was written by
Thomas Nash, a graduate in Economics from the University of Manchester, now
working at PensionReviews.com raising awareness of the need for
people to be adequately prepared for their retirement financially.