If you put $15,000 a year under the mattress for the next 25 years, you’ll end up with $375,000.
Invest that cash at 8% interest yearly, however, and you’ll have more than $1 million.
Since none of us knows what the stock market is going to do in the next 25 years, the best strategy is to own a broadly diversified portfolio of ultra-low-cost index funds, which will expose you to almost every stock market on earth.
One caveat: Right now, stocks and bonds are expensive by historical standards. That suggests modest returns in the coming five or 10 years. But don’t let that get you down. One of these days the markets will crash again, and you’ll be buying on the cheap. Boatloads of academic research have shown that the best approach is so-called “low-cost passive investing”—cheaply tracking the market’s return rather than trying to pick stocks that beat the index.
But occasionally the market offers a sale that’s so dramatic, it makes sense to take advantage. For instance, right now California-based Research Affiliates forecasts that emerging-market stocks are priced to return about 8% a year after inflation, versus an inflation-adjusted return just over 1% for U.S. stocks.
Because you’re looking at a distant horizon, and bonds are about as expensive as they’ve ever been, this is a stock-heavy portfolio. The single divergence from passive management is the Harbor bond fund, because its managers have the freedom to reduce their holdings of the most expensive bonds. (Insider tip: Harbor bond is run by the same team that runs the better-known Pimco Total Return fund, but the expense ratio is one-third less, so you’re getting the same expertise for less.) Consider this:
Jack Otter’s recommended “retire early” stock market portfolio:
35%: Vanguard Total Market Index (VTSMX) expense ratio = 0.16%
30%: Vanguard Total International Index (VGTSX) expense ratio = 0.19%
10%: Vanguard Emerging Market Stock (VEIEX) expense ratio = 0.33
12.5%: VanguardTotalBondIndex (VBMFX) expense ratio = 0.16%
12.5%: HarborBondFundInstitutionalClass (HABDX) expense ratio = 0.51%
Important note: Your 401(k) may not have these exact funds, but they are a useful guide; compare your index options to them, and try to keep the expense ratios at this level or lower. Most big providers, like Fidelity and Schwab, offer similar funds.
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