What’s the most valuable currency you have? Here’s a clue: once it’s gone, you can never get it back. It’s time. It’s an investor’s most valuable currency and with time on your side, your super has the chance to grow..
Why? Having super makes you an investor. This money is invested in things like property, shares, infrastructure (like roads, hospitals and airports) and government bonds, to give it the best chance of growing. So by investing over a long time-frame, when you retire and access your super you can typically expect to have more money than that was contributed to the account. Currently, your employer is required to add 9.5% of your pay to your super, and you can also add more if you want.
Saving money vs investing money
Putting aside some money each payday into a savings account (like your bank account) can be great for short-term goals and life’s little emergencies. The good thing about savings accounts is that you often know the interest you’ll get before you save your money and the Government guarantees bank deposits, so you can’t lose your moneyi. You can also access your money at any time for many accounts.
The main downside to saving is that interest rates can be low, which means your money doesn’t grow much over time.
Your super is an investment in your future. It’s preserved until a certain age so that it can provide an income source for you after you finish up work. If you were born after 1964 your preservation age is 60.
While savings is about not letting money go. Investing is about making more money out of your existing money. Investing over a longer timeframe is usually done with the expectation of higher returns. Given your super could be in the system for 40 years or even more (depending on how young you were when you started working) it makes sense that your super money is invested to give it the best chance of growing over this timeframe.
Making money out of your super money
Compounding is one of the great wonders of investing; it’s when you earn returns on your returns.
Picture this. A snowball rolling down a hill. It grows and accelerates the longer it can roll down the hill. Like the snow ball, your super balance grows by contributions (made by your employer or by you) and also by the returns on your investments. And, here is the special part, the returns on the returns accumulate over time.
Let’s crunch some numbers
Say you invest $10,000 in the share market and you get a return of 10% each year (compounded monthly). You would make $1,000 on your original investment in the first year.. If you keep this invested, you would get returns on $11,000 instead of your original $10,000 the following year. This process keeps going and going. In fact, assuming a return of 10% each year, you would double your money after seven years.Source: AustralianSuper
We had to make assumptions to provide this calculation:
- Initial deposit is at the beginning of Year 1
- Interest is credited monthly
Of course, returns aren’t the same every year; some years they’re higher and other years they’re lower. When returns go up and down a lot, it’s called ‘volatility’. Typically, the investments that have the potential for the highest rates of return, like shares, also have highest levels of volatility.
Time is your best friend when investing. The longer you invest, the more time you have to ride out market ups and downs. With investments like shares and property, the price can go up over time. This means your original investment could be worth a lot more than when you started, even after you’ve deducted inflation and tax. With savings your money can actually go backwards, once you take these two things into account.
Starting early for a bigger difference
Adding to your super in your 20s can make a big difference to your final super balance. For example, if you chose to add $20 per week to your super for one decade of your life, when might you do it? Maybe when you are older and earning more money? Interestingly, doing it early on, say, between the ages of 20-30 can make more of a difference than doing it in your 50s. That’s because of the power of compound interest; there is more time for your returns to earn returns.
We had to make some assumptions to illustrate the above. These are listed below:
- Benefit shown is the additional super balance at retirement at age 67, to a member now aged 20 as a result of the additional contributions starting at the stated age
- Results have been rounded to the nearest $1,000
- No admin fees or insurance premiums have been considered as these are baseline costs that would be incurred regardless of the additional contributions
- Additional contributions are after tax contributions, which stay the same in real terms for the period of contribution i.e. increase by 3.5% p.a. in nominal terms. All figures in today's dollars. Using wage inflation of 3.5% p.a. as the deflator
- Contributions occur evenly throughout the year investment return of 6.5% p.a. after investment tax and fees
The bottom line
- Super is invested in a range of different things such as shares and property and uses the power of compounding to help it grow over your working life.
- Even modest contributions to super early on in your career can make a big difference to money you end up with in retirement.
- Super might be the biggest investment you have in your lifetime after a house. So it makes sense to be interested in how it is tracking.