The Power of Compounding

The power of compounding can make you lots of money!

Have you ever heard about a stock that had some huge run and thought to yourself, “how come I didn’t know about that before it ran up? If I had only known back then what I know now I could have made a ton of money.” Well, if you ever had that thought, here’s your chance to see what you can do.

Let’s pretend that you have a time machine and could step inside and go back to 1968. You would be the same age you are today, have all of the knowledge that you have now and the ability to buy any stock you want to buy. Pretty good deal, right? Who wouldn’t want to do such a thing? But here’s the trick: you will only be allowed to keep all of the price appreciation on the stock you select if you pick the one that had the biggest price appreciation from 1968 - 2014. Make the wrong selection and all of the profit you could have earned disappears. Select the biggest winner over that time period, however, and you will make a fortune. You in?

So what stock will you pick? GE; Johnson and Johnson; IBM; ATT; Exxon; Boeing; Caterpillar; Procter and Gamble; Coca Cola. You name it; any stock you want. And, to give you an even better shot at getting it right, we’ll change the rules and allow you to pick the S&P 500 in case you think this is a trick question and over time no one can beat the index. You can pick that too if you want. OK. Time’s up. Whatever it is you picked the odds are you didn’t pick the right one. The # 1 best performing stock from 1968 – 2014 was not a technology company, not an oil company, not a consumer products company, not a phone company, not a soft-drink company and not even the market itself; it was Altria, a cigarette company that, among other things, used to own Phillip Morris.

How could such an obscure company, with only moderate annual growth, doing business as part of an industry that gets sued all the time and that many want to regulate out of existence be the best performer of them all? Because of the power of compounding. That’s how.

If you had invested $1 in this stock in 1968 it would be worth $6,638 by 2014 (including dividends). The same money invested in an S&P 500 index fund would be worth $87 today or 98% less.

Here’s another way to drive the point home:

• $1 invested in the average American industry in 1900 would have been worth $38,255 by 2010.
• $1 invested in a food company, chemical company or electrical company in 1900 would have been worth about $700,000 by 2010.
• $1 invested in a tobacco company in 1900 would have been worth $6.3 million by 2010 or 165X the average American industry. 
• I obtained this data from an article written by Morgan Housel that appeared in CNN Money and the Motley Fool on February 19, 2015. Here is what Mr. Housel had to say about the power of compounding:

“High dividend yields, compounded over
decades, add up to massive returns……
The ridiculously large gains from compound
interest occur at long holding periods. The
key to building wealth isn’t necessarily high
returns, but mediocre returns sustained
for the longest period of time.”

You can’t say it any better than that. It is the power of compounding and never ever forget it.

-David Bianchi