Perhaps the simplest and most powerful wealth-building advice is to adopt a long-term perspective when investing. Warren Buffett famously demonstrated the power of compounding through a thought experiment: in 1626, the Lenape sold Manhattan Island to Peter Minuit for 60 guilders—about $24 at the time. Buffett noted that if those $24 had been continuously invested at a 7% annual return, the investment would today far exceed the cost of reacquiring Manhattan, even accounting for all improvements. Hard to believe, right? However, the math shows that over 399 years, $24 compounded at 7% annually would amount to $12.7 trillion by 2025, compared to Manhattan’s estimated value of $3–4 trillion. In contrast to a uniform decline, money, like the unexpected growth of the Manhattan investment, rotates unevenly across industries based on demand. We adopt a macro-conscious approach in our High-Quality portfolio, which has outperformed the S&P 500 and achieved returns greater than 91% since inception.
(1) Compounding Is Not Intuitive
Compounding over time is an incredibly powerful force, yet most of us vastly underestimate its impact. Try this yourself: what would $1 million grow to if compounded at 10% over 50 years? Take a moment to guess… then compare your estimate to the actual result of about $100 million. Quite remarkable, isn’t it?
Even seemingly small annual differences of a few percentage points can have a large impact on the eventual portfolio value over time. The tables below illustrate compound returns for various portfolios across different time horizons.
(2) Limit Loss
Compounding delivers tremendous results over time when you preserve your capital from the start. The chart below highlights why avoiding large losses is essential. The math is straightforward: a 25% loss requires a 33% gain to break even, and a 50% loss demands a 100% gain to recover. Simple, yet often overlooked.
(3) Focus Efforts on Risk Control Rather Than Prediction
Risks are often easier to manage than returns. For investors, prioritizing risk control is crucial for limiting losses and enabling compounding to work its magic over time. This focus is more valuable than attempting to predict individual winners or the direction of markets and economic indicators (interest rates, GDP growth).
(4) Humans Are Not Wired to Invest
Though these ideas are straightforward, many investors still overlook them. Faced with a large loss or the urge to chase a hot performer, emotions often cloud judgment and cause us to abandon these core principles. Glenn Caldicott, CIO of Empirical Asset Management, observes that “humans are meant to survive, not invest.” Overcoming fight-or-flight instincts requires conscious effort; having structured systems, plans, or guidance from a wealth advisor can help you navigate tough markets more effectively. We expect to live for close to 100 years, why do we then act as if we have life-span of a fruit fly?
Trefis offers systematic portfolio strategies that incorporate risk control via a mix of high-quality selections and active hedges. We’ve partnered with Empirical Asset Management, a rules-based wealth manager, to make these strategies available to investors. If you’re interested in learning more about Trefis’s strategies or Empirical, check out this link.