One of the most powerful wealth-building tools available to investors is compounding.
By investing in high-quality ASX shares with strong competitive advantages and reinvesting dividends, patient investors can turn a modest initial investment into a substantial portfolio over time.
The power of compounding with ASX shares
Compounding is what happens when returns are reinvested to generate additional earnings over time. While it may seem slow at first, given enough time, the results can be significant.
Historically, the Australian share market has delivered an average annual return of around 10% (including dividends), though this is not guaranteed. If an investor were to put $15,000 into a well-diversified portfolio of high-quality ASX shares and achieve this 10% return per annum, their investment could grow to approximately $200,000 in just over 27 years without any additional contributions.
Choosing the right ASX shares for long-term growth
Not all ASX shares are created equal when it comes to compounding wealth. The key is to invest in companies with sustainable competitive advantages, strong financials, and a history of consistent growth.
ASX shares with economic moats—such as dominant market positions, strong brands, or high barriers to entry—are more likely to deliver consistent long-term returns. Companies such as CSL Ltd (ASX: CSL), Cochlear Ltd (ASX: COH), and Macquarie Group Ltd (ASX: MQG) have demonstrated these qualities over time.
Additionally, investors could consider exchange-traded funds (ETFs) that track the indices, such as the Vanguard Australian Shares Index ETF (ASX: VAS) or the Betashares Nasdaq 100 ETF (ASX: NDQ). These provide diversified exposure to strong businesses and allow investors to benefit from overall market growth.
Accelerating growth with additional contributions
While investing a single lump sum and letting it compound can be effective, adding regular investments can dramatically speed up the wealth creation process.
For example, starting with a $15,000 investment and contributing just $500 per month could allow an investor to reach $200,000 in just 13 years, assuming the same 10% annual return.
This approach not only accelerates wealth accumulation but also takes advantage of dollar-cost averaging, reducing the impact of market volatility over time. Even during periods of downturn, continued investments can help investors buy shares at lower prices, potentially enhancing long-term returns.
Foolish takeaway
Investing in high-quality ASX shares with sustainable advantages, staying patient, and reinvesting dividends can lead to substantial long-term growth. Whether an investor starts with a lump sum or makes regular contributions, the power of compounding remains one of the most effective ways to build significant wealth in the share market.
