February 2024
Compounding is one element which can help your super grow. Understand the basic concept and see how the power of compound returns may help boost your balance over the long term.
Compounding is an important part of investing. In fact, it’s often referred to as one of the great wonders of investing. In relation to your super, put simply, compounding is the investment returns generated on the returns you’ve already earned.
So, what is compounding?
Picture this: A snowball rolling down a hill; it may start small, but it grows the longer it rolls. That’s because it’s adding layer after layer. The snowball represents your balance, and the layers represent the compound returns.
Explore how compounding can give your super a boost.
How compounding works with your super
Like the snowball, your super balance can grow too.
In the context of super, compound returns are earned on your entire account balance, through the daily crediting rate.
Any money earned grows your investment balance and continues to be invested by your fund. The process occurs repeatedly, continually accumulating over the lifetime of your investment, i.e. compounding.
Your balance will also grow through any contributions put in, either via your employer as part of the Superannuation Guarantee, or by you through voluntary contributions. The returns on your returns also accumulate over time. These additional contributions increase your balance helping grow and compound as additional returns are earned.
It’s important to remember that all investments, including super, have some risk. Volatility is when the returns on your investment go up or down over time. The level of volatility your super investment could have will depend on the types of assets that your super is invested in.
While history shows that members’ super balances have increased over the long term - if a member had invested in AustralianSuper’s Balanced option over the past 20 years, they would have more than four times their initial investment today1 - there are periods when investment markets are volatile, and returns are negative.
Your super is an important investment – and it’s yours
Your super isn’t money that just sits in your account waiting for you to retire. Your super fund puts it to work, investing it in various assets with the aim of growing your balance, preparing for your retirement.
By investing the money, it gives it the best chance of growing. When investments grow, you get a return – which shows in the balance of your super account. Every time you get a positive investment return, it increases your balance, enabling your retirement savings to grow over time.
Compound returns and investing for the long term
Time is your best friend when investing. The old saying, “it’s not about timing the market, but about time in the market,” has proven true over the years.
The longer you invest, the more time you have to ride out market ups and downs. Investment returns aren’t the same every year – some years they’re higher and other years they’re lower, and can even be negative. When returns go up and down a lot, it’s called ‘volatility’, and markets move through ‘cycles’ of stability and volatility.
Typically, the investments that have the potential for the highest rates of return, such as shares, also have highest levels of volatility. This is why it can be beneficial to diversify your retirement savings over a variety of asset classes that can reduce volatility and offer long-term growth potential.
The power of compound returns increases when used over a long-term period.
Investing over a longer timeframe is usually done with the expectation of higher returns. Given the money put into your super could be ‘locked away’ for 40 years or more (depending on how young you were when you started working), it makes sense that it doesn’t just sit there doing nothing; it should be put to work (invested) to give it the best chance of growing over this long-term timeframe.
Start compounding early to have biggest impact on your retirement savings
Using the snowball analogy mentioned above, the earlier you can get the ball rolling the longer it will have to accumulate compound returns and grow. Adding to your super in your 20s could make a very big difference to your final super balance.
There are plenty of ways, aside from employer contributions, you can add to your super balance today to help achieve the retirement lifestyle you want down the road. You can make a before-tax contribution to your super by sacrificing part of your pre-tax salary. This could reduce the amount of tax you pay if you pay more than 15% tax on your salary.
You can also make after-tax contributions from your take-home pay. Plus, if you’re a low-income or middle-income earner, the government could also make a contribution (known as co-contribution) to your super, up to a maximum amount of $500.
Find out more: After tax contributions
Before adding to your super, consider your financial circumstances, contribution caps that may apply, and tax issues. Consider getting financial advice before deciding what’s right for you.
AustralianSuper members can access a range of financial advice options, which could help you decide what’s right for you.2
Explore AustralianSuper advice options
Example
Increase in super balance at retirement by adding $20 per week for a decade
The table below is an example of how compound returns could help grow super over time. It’s a general example which doesn’t take into account admin fees or insurance premiums. The table shows that if one were to add to super earlier, the compounding benefits over time are greater. The example looks at a member aged 20 to age 67. If aged 20 and added $20 a week for a decade, they would have earnt $29,000 extra in their account from compounding returns when reaching age 67. If they started adding $20 extra a week at age 40 for a decade, they would have $16,000 extra in their account at age 67 from compound returns.
| Age | Extra Balance |
|---|---|
| 20-30 | $29,000 |
| 30-40 | $22,000 |
| 40-50 | $16,000 |
| 50-60 | $12,000 |
Source and rounding: AustralianSuper
Example is for illustration purposes only, rounded to the nearest $1000. The actual benefits you receive will depend on a range of factors including future economic conditions, investment performance and legislative change. Investment performance is not guaranteed. AustralianSuper calculations 2023.
The following assumptions were made (to illustrate the above):
- The benefit shown is the approximate additional super balance at retirement at age 67, as a result of the 10 year additional contributions during the stated age ranges.
- No superannuation admin fees or super insurance premiums have been considered, as these are baseline costs that would be incurred regardless of the additional contributions.
- The 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 with an investment return of 6.5% p.a. after investment tax and fees.
Build your best possible retirement
Your super can be invested in a range of asset classes to grow your retirement savings over time. For example, a diversified investment option, such as AustralianSuper’s Balanced option, invests in a variety of asset classes including shares, private equity, property, infrastructure, fixed interest and cash to provide the opportunity for long-term growth and diversification to limit the impact of market downturns.
You can help grow your retirement savings and maximise the compounding effect by considering taking a few simple steps:
- Compare funds and investment choices to make sure you’re with the best super fund for your needs.
- Consolidate your super.3 If you’ve ever changed your name, address or job, you may have multiple super accounts. That means you could be paying more than one set of fees. Consider if consolidating them into one account could benefit you.
- Contribute to your super4, on top of your super guarantee employer contributions. Small contributions to super early on in your career can make a big difference to your balance in retirement.
Super might be the biggest financial investment you have in your lifetime, after a house. So it makes sense to be interested in how it’s tracking.
References
- Based on investment in the Balanced option from 1 January 2004 to 31 December 2023. Doesn’t include all admin, insurance and other fees deducted from accounts. Returns from equivalent investment options of the ARF and STA super funds are used for periods before 1 July 2006. Investment returns aren’t guaranteed. Past performance isn’t a reliable indicator of future returns.
- Personal financial product advice is provided under the Australian Financial Services Licence held by a third party and not by AustralianSuper Pty Ltd. Fees may apply.
- Before making a decision to combine your super, consider any fees or charges that may apply, and the effect a transfer may have on benefits in your other fund such as insurance cover. We recommend you consider seeking financial advice .
- Before adding to your super, consider your financial circumstances, contribution caps that may apply, and tax issues. Consider getting financial advice before deciding what’s right for you.