A couple years ago now, I was given something from beyond the grave–my great grandmother had gifted me a Series EE bond. These bonds have been relatively boring in recent history, but they weren’t always that way. The interest rates varied dramatically depending on when they were purchased. Fully backed by the US government, there were times in the early eighties when you could buy a bond that paid a guaranteed 7, 8, or even 9% for many years.
The financial advisor in me was excited to see how much the bond was worth today, 30 years of growth later. But when I saw it and ran the calculation, a surprisingly emotional response swept through me. $25 had become $50 over 30 years.
My first thought was disappointment. It wasn’t about the amount, either–I hadn’t anticipated much. My Granny had lived a very simple life and I didn’t expect her to leave anything to anyone, least of all me because I was so many generations down. My disappointment was anchored more in the story that she had likely been told, and how that story had seemingly aligned with her wish to leave a gift to a just born baby who would be a fully grown man by the time he received it.
For thirty years, she had locked up her money–longer than almost any hedge fund, annuity, or private equity fund would ever expect of you. And the result?
A 2.337% rate of return.
I felt like my Granny had been cheated, not me. Here we were, decades later, and the bond hadn’t even kept up with the rate of inflation. In real dollars, it had actually lost money. It did not feel like an investment in good faith–it felt like the US government was borderline stealing from a kind, old lady. She wasn’t a financially sophisticated person. She didn’t have someone to explain what else was out there and guide her.
Like if she had instead bought into the stock market. During that same 30 year time period, the S&P 500’s returns were low relative to most other 30 year time frames. Assuming dividends were reinvested, however, the return would have averaged 9.7% per year, roughly 4 times higher.
That $25 would instead have become $402.89. And had I still been hanging onto it today, that investment would be worth roughly $680.
I choose to look at silver linings here, rather than dwell on what could have been. That little bond is valuable to me because it serves as one of many little reminders of how valuable good advice can be. It reminds me of the power of properly wielded compound interest. Few things in the world can take two identical lives and create such dramatically different outcomes.
Let us turn to the math that gets us excited.
Many times clients ask what it could look like to gift something to their grandchildren or other very young family. Most of our clients are no strangers to investing and compound interest–they have a general idea of what to expect. But they ask because they want me to paint a scenario for them. They want to know how meaningful a gift could really be.
In little moments like that, I picture my Granny as a younger woman, and imagine that she is sitting in the chair next to us.
There are common numbers we talk about. Like $7,000, the maximum you can add to a Roth IRA in a year. Or $19,000, the annual gift exclusion you can give someone without having to file a gift tax return ($38,000 if you are married because each of you can gift $19,000).
Let’s use the smaller number. Imagine gifting someone $7,000 and investing it. What could it look like?
If we assume typical stock market returns, we might assume anywhere from 8-12% per year and be well within historical possibility*. And if we are gifting to a 10 year old, let’s assume a 50 year timeline to see where they are at age 60.
An 8% annual return makes the $7,000 into $328,311.
A 10% return makes the $7,000 into $821,735.
A 12% return makes the $7,000 into $2,023,015
Even after inflation, one thing is clear: a one-time gift like that, used properly, can drastically alter someone’s life.
Perhaps even more mathematically mind boggling is the math of now. You take that same gift, same circumstance, and decide to wait a year. What happens?
$328,311 becomes $302,046.
$821,735 becomes $755,996.
$2,023,015 becomes 1,861,173.
Those are still fantastical numbers, make no mistake, but it showcases how valuable a single year can be. The decision to wait can cost that 10-year old tens or even hundreds of thousands of dollars. In the third scenario, waiting one year is equivalent to giving up more than 23 of the original gift!
So if you are thinking about it…why wait? If you are concerned about your own lifestyle and income and aren’t sure if you can give to someone you care about, reach out so we can answer your questions. We can show you if a gift affects your plan.
As an aside, how many times have we heard about the elderly investing conservatively because they are retired? The classic advice we hear to be safe and stop taking “risk” in our old age isn’t unfounded–we need stability of income when the market is temporarily down. But don’t fall into the same trap my Granny did with your own investments. Temporary volatility and risk are not always the same thing. Even an eighty year old may have 10-15+ years ahead of them, and bonds almost never outperform equities across that kind of time period.
And if you don’t believe your time horizon is that long, this might apply to you even more! If you have enough to last you for the foreseeable future, consider what the true timeline is for the extra. The timeline, and by extension how aggressive the investment mix should be, may actually be that of your beneficiaries!
With that in mind, our clients sometimes buck common wisdom and become more aggressive as they age, rather than more conservative. It all depends on the specific situation.
*This is a hypothetical portfolio model with a hypothetical 8% , 10%, and 12% return and is provided for illustrative purposes only. No specific investments were used in this scenario, and actual results may vary based on a variety of factors, including changes in market conditions, portfolio selections, and economic circumstances. Past performance is not indicative of future results, and future returns are not guaranteed. These projections are based on assumptions which may not be realized, and this scenario does not account for taxes, fees, or other potential expenses which may affect outcomes. Investors should not rely solely on this information when making an investment decision. Please consult your financial professional for advice tailored to your individual situation.
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