I once saw a video (Ted talk, maybe?) about the power of doubling. In the example, the speaker emphasized what it means for something to double repeatedly. He spoke about our oil usage. It doubles roughly every decade, and due to its exponential growth, it means that every decade we use more oil than we'd used in all of history before that.
But, I'm not here to talk about oil. This same concept can be applied to retirement savings. Assume you stash away the same amount of money every year (this is not an entirely valid assumption for a number of reasons and we'll come back to it) and earn a 7% return each year. These assumptions are generally reasonable. The 7% is particularly noteworthy because it's just about the rate needed to double in a decade. This got me thinking: are the assets contributed to a retirement in the first decade going to trump those contributed in the following 3? If so, this is a profound realization.
To double-check, I threw together some Excel tables to test the above and see where the cutoff is (in years). Here's the table, assuming constant contributions of $10,000 per year and constant returns over a 40-year period:
In other words, the first decade is as important as the last 3. If your returns are higher, the effect is exaggerated, but even at a relatively modest 5 percent return the first 12 years net out to the same as the last 18. Of course the effect is reduced if the savings is over less than 40 years, and increased if it's longer.
Now lets revisit the assumptions ...
I used the assumption that the contribution would be the same each year. This is technically and practically unlikely in many cases. Technically, because roughly 2 of every 3 years the contribution limit rises $500. In practice this makes little difference (running the same calculations with this adjustment moves the cutoff from 10 to 11 years at 7%, for example).
The in-practice assumption is the hard one. Most people's earnings increase over time, and with that, so does their ability to save for retirement. Many (due to salary) are forced to choose between "life now" vs "life later" (for example, someone making 30k will not be able to stash $18k in a retirement account). The above illustrates the great power of compounding growth, which should give people more incentive to consider the "life later" bucket.
For anyone who can afford to, it's just as important to save max for the first decade as it is to save max for the next 3. If you can, do it.
But, I'm not here to talk about oil. This same concept can be applied to retirement savings. Assume you stash away the same amount of money every year (this is not an entirely valid assumption for a number of reasons and we'll come back to it) and earn a 7% return each year. These assumptions are generally reasonable. The 7% is particularly noteworthy because it's just about the rate needed to double in a decade. This got me thinking: are the assets contributed to a retirement in the first decade going to trump those contributed in the following 3? If so, this is a profound realization.
To double-check, I threw together some Excel tables to test the above and see where the cutoff is (in years). Here's the table, assuming constant contributions of $10,000 per year and constant returns over a 40-year period:
| Rate (%) | Final Total | Cutoff |
| 5 | 1.28M | 12 |
| 6 | 1.65M | 11 |
| 7 | 2.15M | 10 |
| 8 | 2.81M | 9 |
| 9 | 3.69M | 8 |
| 10 | 4.88M | 7 |
In other words, the first decade is as important as the last 3. If your returns are higher, the effect is exaggerated, but even at a relatively modest 5 percent return the first 12 years net out to the same as the last 18. Of course the effect is reduced if the savings is over less than 40 years, and increased if it's longer.
Now lets revisit the assumptions ...
I used the assumption that the contribution would be the same each year. This is technically and practically unlikely in many cases. Technically, because roughly 2 of every 3 years the contribution limit rises $500. In practice this makes little difference (running the same calculations with this adjustment moves the cutoff from 10 to 11 years at 7%, for example).
The in-practice assumption is the hard one. Most people's earnings increase over time, and with that, so does their ability to save for retirement. Many (due to salary) are forced to choose between "life now" vs "life later" (for example, someone making 30k will not be able to stash $18k in a retirement account). The above illustrates the great power of compounding growth, which should give people more incentive to consider the "life later" bucket.
For anyone who can afford to, it's just as important to save max for the first decade as it is to save max for the next 3. If you can, do it.
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