This is the editorial of our monthly Shareholder Yield Letter published on 12 November 2024.
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In this article, you will learn why staying invested over the long haul is your best wealth-building strategy. Discover how the power of compounding—not risky, high returns—helps you grow your capital over time.
You will also see why changing strategies too often can interrupt growth, and how a steady, sustainable approach can maximize your wealth. If you’re curious about a method that’s easy to follow and can weather market ups and downs, this article offers practical insights to help you keep compounding.
Estimated Reading Time: 5 minutes
Did you know that 99% of Warren Buffett’s net worth (assets minus liabilities) was earned after his 50th birthday, and 97% came after he turned 65? This was an eye opener for me, and I am sure for you too. It is the simple result of compounding (the return on past returns and capital). If you think about it makes perfect sense.
As your total investment amount grows the even small returns on a much bigger amount results in a huge increase in the total amount of money you have. For example, an 8% return on $100,000 is $8,000. But the same return on $1 billion is $80 million.
You Must Keep Compounding – Time Is the Secret
But to grow your capital you must be and stay invested. That means you must keep on growing your capital.
And if you think you need to take a lot of risk and get large returns you are wrong. The secret is to keep on growing, even at a lower rate but also not to lose a large amount of money.
The secret is time!
The more time you have the longer you can compound your money. This means the most important question you need to answer for yourself is not:
“How can I earn the highest returns?”
it is,
“What are the returns I can sustain for the longest period of time?”
That is how you make the most of your net worth.
Never Interrupt the Process
Charlie Munger (Warren Buffet’s partner) says:
“The first rule of compounding is to never interrupt it unnecessarily.”
Interrupting this compounding process can happen in many ways.
The most common is finding a great investment strategy that produces high returns for a period then abandon it when it has a few bad years. You know all investment strategies do this so it should not surprise you.
Having an investing strategy that gives you great returns for five years but shakes your faith to the point that you abandon it in year six will leave you worse off than a strategy that produces good returns, but you can stick with for six, seven, eight, 10, 20 years.
This is especially true if, after abandoning a strategy, you jump to a strategy that is the current (last year or two) best strategy and keep repeating this process.
Important Lesson I Learned
This compounding idea, along with the realisation that I (and you) cannot time the market was BIG wake up call for me.
Especially because, after the financial crisis and the Corona market correction in March 2020, I stayed mainly in cash for FAR too long. I was worried the stock market will fall a lot more.
This made me hesitant to buy as markets recovered. And, as they recovered, I thought I have already missed the recovery and stayed in cash even longer. All of this led me to avoid a large part of the losses but, as I was not invested, my returns in the recovery were a lot lower.
Good Investment Process
I also realised I have a good investment process; the same one we use for the Shareholder Yield newsletter. This is to stop buying when markets are falling and sell investments if they break the 20% trailing stop loss limit.
This gives you the returns from following a great investment strategy but keeps your losses low. Perhaps the most important, because you keep your losses low you can stick to the strategy over the long term.
No Need to Hold a Lot of Cash
So, there is really no need to have a part of my portfolio in cash. I must just follow the system. But if I have problems following the system I have built and tested over 37 years I am sure you have similar doubts which I hope I have helped to put to rest in this article.
What To Remember
When you realise how important time is you will know that having the big yearly returns and maximising your long-term wealth are two completely different things.
And if you have a good process and time on your side you cannot lose.
Your analyst wishing you profitable investing!
How Small Returns Lead to Big Wealth Over Time Frequently asked Questions
Why does Warren Buffett say compounding works best after 50?
Compounding gets stronger with time. Buffett earned most of his wealth after 50 because compounding builds on itself. Small gains grow into much larger ones if you give them enough time.
Do I need high returns to grow my wealth over time?
No, you don’t need huge returns. Consistent, steady growth adds up more than you think. The key is to stay invested over time without losing money.
What does it mean to “interrupt compounding,” and why should I avoid it?
Interrupting compounding happens when you jump in and out of investments. If you switch strategies or pull out when times get tough, you reset your growth. Staying invested is crucial.
How can I avoid abandoning my investment strategy during down years?
Pick a strategy that works long term and fits your goals.
Focus on its average performance over years, not its ups and downs in any single year. Switching after every downturn limits your gains.
Why should I worry less about “timing the market”?
Timing the market is nearly impossible to do consistently. Instead, staying invested lets compounding do its job. Missing a recovery can be more costly than any short-term losses.
Should I hold some of my money in cash in case of a downturn?
It’s often better to stay invested with a good plan than to keep cash on the side.
A solid strategy with rules on when to buy and sell protects your capital without needing a lot of cash.
How does compounding change when my investments grow larger?
Compounding increases as your investment grows. For example, an 8% return on $100,000 is $8,000, but on $1 million, it’s $80,000. The bigger your base, the bigger your returns.
What is the most important question to ask about my investment returns?
Instead of aiming for the highest returns, ask yourself, “What returns can I sustain for the longest time?”
Consistent returns you can stick with build more wealth than chasing the highest rates.
What are some practical ways to limit losses in my investments?
A simple rule like a 20% trailing stop-loss can help. This means selling a stock if it falls 20% from its high, which protects your gains without locking up cash.
How can a steady investment process help me reach my goals?
A good, consistent process keeps you invested and focused. Knowing your system lets you stay the course without reacting emotionally. Long-term, this means steady, compounding gains.
