How to make a million in shares

Want to be a millionaire? That (rhetorical) question has sold thousands of lottery tickets and inspired more than a few reality television shows.

Back in the land of reality for a minute, only the very lucky will make their fortune that way. For the rest of us, though, the path to a million dollars isn’t anywhere near as difficult as you might think.

And if you’re serious about a seven-figure fortune, investing in the stockmarket can be a powerful way to get there. Just beware of those who’d sell you a secret formula, trading strategy or expensive ‘course’.

The stockmarket was once assumed to be the bastion of pure economic rationality. Where economists and mathematicians should reign supreme – courtesy of efficient markets and mathematical equations. Or so the outdated (and mostly discredited) theory used to go.

History’s guide

Then there are those who’d have us trust our fortunes to (past) charts and price patterns. Billionaire investor Warren Buffett deals nicely with them: “If past history was all there was to the game, the richest people would be librarians.”

While history won’t provide us with a neat investment strategy that simply requires extrapolation and little else, it will give us a sense of what happens when human ingenuity, a supportive political and regulatory environment and the profit motive intersect.

Index fund manager Vanguard has helpfully crunched some numbers – over the three decades ending June 30, 2014, the total annual compound return from Australian shares is a cool 11.7%.

Three steps to $1 million

That mightn’t sound staggering, but it’s enough to turn $10,000 into $278,000 over 30 years. That’s our first clue – and easiest path – to making a million in shares: time.

Compounding, something Einstein may have called ‘the eighth wonder of the world’ (the quote’s provenance is contested), truly is a wonder whose beauty is more pronounced the longer you sit and watch. If we get another 10 years of similar returns, that $278,000 will become $843,000. And just another two years later, you’d be sitting on a cool $1 million! Did I mention that compounding really is a wonder?

Don’t want to wait 42 years? I don’t blame you. You can shorten that by adding regularly – an extra $500 per month can cut your 42-year wait down to 26! In other words, you’ll have $1.04m in 26 years when someone who just puts away the original $10,000 and no more will have $178,000. That’s our second secret, which takes a little extra discipline: adding regularly.

And if 26 years seems still too long to wait, there’s a third factor to consider. That 11.7% return was achieved by simply tracking the index – the equivalent of owning every company on the All Ords. But what if you could do just a little better? By ignoring the poor companies and owning a little more of the better ones, for example. You won’t be able to take that 11.7% to 25% any time soon, but what if you could increase it to, say, 13%? Easier said than done, of course, but a 13% annual return will see you hit the million dollar mark in year 24, by maximising our third factor: investment returns.

Of course, as the voiceover bloke (it’s always a man for some reason) always says, past performance is no guarantee of future returns. And he’s right. But the returns from shares have been terrific, (more so when you add in the tax-advantaged nature of franked dividends.

Foolish takeaway

You can play with the numbers until the cows come home. If you start with $20,000 and add $600 per month at 13.5%, you'll hit the million dollar mark in year 21, for example. If you're lucky enough to start with $25,000 and you can scrimp your way to saving $1000 each month, year 18 will be your millionaire year.

The important point is that it's achievable. And over the past 30 years, it's required little more than patience and regular additions to turn $10,000 and $500 per month into over a million in only 26 years, just by earning the index return. The levers are within your grasp: start now, add regularly and invest well. Here's to your million dollar share portfolio!

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Scott Phillips is a Motley Fool investment advisor. You can follow Scott on Twitter @TMFGilla. The Motley Fool's purpose is to educate, amuse and enrich investors. This article contains general investment advice only (under AFSL 400691).

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