Unravelling the Wealth-Generating Power of the Stock Market
It’s a common misconception that the stock market is a playground for only the affluent. But Wharton School’s finance scholar, Jeremy Siegel, author of the widely acclaimed investment guide Stocks for the Long Run, has affirmed that the stock market is the most substantial wealth generator over the long term, considering its performance over several decades rather than shorter periods. Yet, according to a recent Gallup poll, only around two-thirds of adults in the U.S., about 62%, have investments in individual stocks, mutual funds, or retirement accounts. For the rest, factors such as limited financial means, low risk tolerance, skepticism of financial institutions, or inadequate financial knowledge could be deterrents.
Against this backdrop, we highlight ten compelling arguments for why investing in the stock market could be advantageous to any U.S. adult, regardless of their individual financial situation or risk tolerance. To start, traditional savings accounts are not adequately equipped to contend with inflation. The average annual inflation in the U.S. from 2004 to 2024 lingered around 2.5%, while the average annual yield from U.S. savings accounts during the same timeline was only 1%. Consequently, keeping your money idle in a savings account would have caused your purchasing power to gradually dwindle.
The Federal Reserve’s rate hikes in 2022 and 2023 pushed up the yields on savings accounts, CDs, and T-bills to a range of between 3% and 5%. However, these inflated yields are prone to decline again as the interest rates drop. Additionally, even though some bonds, like Treasury-Protected Inflation Securities (TIPS), Series I (inflation-tracking) bonds, and long-term Treasuries, are formulated to match inflation growth, they are not the majority.
Most Series EE (fixed-rate), municipal, and corporate bonds find it challenging to keep up with inflation. While some may offer higher yields that surpass inflation in the short term, they are invariably associated with much higher credit risks compared to their counterparts offering lower yields. On the contrary, the S&P 500, an index comprising the 500 leading U.S. public companies, has delivered an average annual return exceeding 10% since its origination in 1957.
While it’s important to remember that past returns don’t guarantee future performance, it is reasonable to expect the S&P 500’s upward momentum to persist as long as the U.S. economy continues to grow. Moreover, the myth that investing requires hefty upfront costs is no longer true. Commission fees for each transaction were once standard in the industry, but the prevalence of commission-free trading in the last decade has changed the game.
Furthermore, the advent of fractional trading has made investing more accessible. This feature allows individuals to gradually accumulate shares of high-value stocks, such as Nvidia or Amazon, typically priced in the hundreds or thousands per share. This was a barrier in the past, but most brokers now facilitate these partial trades, further democratizing access to the investment world.
A prudent investment approach, regardless of how small or large, can yield significant results over time. As a case in point, a regular $100 monthly investment, assuming an 8% annual return, could grow to over $150,000 in a period of 30 years. Therefore, succeeding in the stock market doesn’t necessarily require large sums of money; just consistent, manageable investments can do the trick.
While the stock market comes with its share of risky and volatile stocks, there are also ‘evergreen’ stocks. These are stocks that provide reliable dividends and relatively steady long-term returns. Case in point, Coca-Cola’s stock has appreciated by 213% over the past two decades. Moreover, reinvesting these dividends would have resulted in a total return of 473%, thus far outpacing inflation.
Beyond being a platform for wealth creation, the stock market also offers opportunities for enhancing one’s financial literacy. The process of understanding a company’s business model, interpreting earnings reports, and evaluating stock valuations, enriches one’s financial knowledge and betters decision-making in financial matters. An undeniably valuable skill set to have, given our increasingly complex economic landscape.
Furthermore, wise financial decision-making ensures a more secure and potentially earlier retirement. Unfortunately, per the Federal Reserve, only slightly more than half of Americans, or 54.3%, have retirement accounts, with a mere 4.7% of these accounts crossing the $1 million savings mark. Building a portfolio comprising stocks, index funds, and exchange-traded funds could propel you into this privileged category.
Finally, once you amass a portfolio worth $1 million, you could allocate it to several conservative dividend stocks with 4% to 5% yields. Consequently, you stand to earn an additional $40,000 to $50,000 each year. If you don’t immediately need this extra income, reinvesting it in the same stocks could compound your gains.
In this consideration, it’s clear that stocks continue to hold their place as significant wealth generators worldwide. This is a decisive reason for every U.S. adult to confer at least some exposure to the stock market in their retirement accounts. Wielded responsibly, the stock market can serve as a potent tool, not just for wealth generation, but also for securing one’s financial future and improving economic understanding.