New research from The Motley Fool shows that just 62% of American adults invest in the stock market. According to the report, "The top 1% holds 50% of stocks, worth $23 trillion," while "the bottom 50% of U.S. adults hold only 1% of stocks, worth $480 billion."
Of course, individuals can't do much about income distribution across an entire population. But investing in the stock market is perhaps the best single decision you could ever make when it comes to your financial life.
Where to invest $1,000 right now? Our analyst team just revealed what they believe are the 10 best stocks to buy right now. Learn More »
Want proof? Keep reading.
Compounding is the eighth wonder of the world
Albert Einstein was a pretty smart guy. In many ways, it would be wise to heed his advice. And when it comes to compounding, there's a quote many attribute to the physicist that goes something like this: "Compound interest is the eighth wonder of the world. He who understands it, earns it. He who doesn't, pays it."
It's not just scientists who get excited about compounding. According to Standard Charter bank, "Compounding is a financial phenomenon that has the power to generate enormous wealth over the long term."
Want proof? Let's do some math. If you invest $100 and earn a 10% annual return, you'll generate a $10 profit your first year. In your second year, however, you'll generate an $11 profit. That's because 10% of $110 -- your total sum after one year of investing -- is more than 10% of $100, your initial investment.
This is the secret to compounding: The longer your money compounds, the greater your profits become. So after 10 years of investing, your $100 will be worth around $260. After 20 years, the sum would be around $670. And after 40 years, your $100 investment would balloon into an impressive $4,500.
Here's the problem: We're assuming a 10% annual rate of return. That's roughly the long-term average for the U.S. stock market. If you're invested in bonds that earn just 5%, for comparison, your gains would be significantly less.
And don't assume that your gains would be roughly 50% lower just because a 5% return is half of a 10% return. That's not how compounding works. If you had earned 5% annual interest on your $100 investment over 40 years instead of 10% annual interest, your final sum would be just $704 -- an 84% reduction in wealth!
If you're trying to build long-term wealth, compounding is your best friend. And it works best with long holding periods and high returns. Even a 1% increase in annual returns over long stretches of time could result in thousands or even millions of additional profits.
Compared to bonds, CDs, or most other investment options, the stock market has the best long-term track record of high returns. By not investing in stocks, you're likely forfeiting a lot of potential wealth.
Buying a single stock could change your whole life
You don't need to go all in on the stock market to build long term wealth. Even a single share of stock can reset your financial life. That's due to the power of behavioral finance.
Behavioral financial essentially studies how humans make financial decisions in real life. And one of the greatest tricks you can pull off is to reduce the frictions involved in investing. If you don't have a brokerage account and have never invested in stocks, the jump from zero to your first stock purchase is a big one. But with all the infrastructure already in place, the gap between buying your first share of stock and your second is significantly smaller.
The moral of this story is to get started today, even if you have $100 or less to invest. That makes it so much easier to add to your investments over time, generating the long-term wealth that results from compounding.
Where to invest $1,000 right now
When our analyst team has a stock tip, it can pay to listen. After all, Stock Advisor’s total average return is 926% — a market-crushing outperformance compared to 175% for the S&P 500.*
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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
