With only average luck, you can become a millionaire investing in the stock market. It just takes time.
Slowly Becoming a Millionaire
Since before the Great Depression, the U.S. stock market has averaged returns of a little more than 9 percent annually. While no one can predict the future of the stock market, it is reasonable to suppose future market performance will look a lot like historical performance.
The market, of course, is cyclical: Each winning bull market is followed by a bear market drop of at least 20 percent. These cycles vary in length, but the average bull market lasts a little under four years and the average bear market a little more than a year. Over the short term, an investor could invest just before a bear market and lose money. If that investor stays invested, however, eventually her results will likely approximate the market average. What this suggests is that a good way to become a millionaire in the market is to get invested early in life and to keep investing until retirement. The results are slow, but they will generally be quite positive. With consistent investments of $500 each month beginning in your mid-twenties, you may retire a millionaire with actual investments of only a little more than $200,000, a striking example of the time value of money.
How to Invest
The secret to successful investing is diversity: putting a few eggs in many baskets. One good way of doing this is to buy low-cost exchange-traded funds (ETF) offered by one of the few investment management firms that have concluded that the best way to help investors is to keep down their costs. Vanguard and Fidelity have pioneered this movement. A good way to start is to maximize diversity by buying a market index exchange-traded fund (ETF) or mutual fund, such as Vanguard's Balanced Index Fund, which invests across the entire stock and bond market. Younger investors, who have more time to recover from the more volatile stock market, may want to consider adding an ETF that indexes only the Standard & Poor's 500 or another similarly broad cross section of U.S. stocks, such as Fidelity's Spartan 500 Index Fund. Over time, stocks outperform bonds, but bonds are less volatile and present fewer risks.
One Example of Likely Results
A Bankrate Calculator of returns on investment shows that if you begin investing at age 24, put $500 each month into your investment account and have average stock returns of 9 percent per year, when you're 60 you'll be a millionaire with about $70,000 to spare. If you keep investing and retire at 65, you'll have a little under $2 million.
What to Avoid
Investors new to the stock market may believe that if you make the right stock picks you have a good chance of making a lot of money fast with a small investment. A similar philosophy sometimes seeps into stock market cable shows and more aggressively into Internet blogs, where often the blogger has something to sell that purports to help the neophyte reader get rich quick.
The reality is quite different. Economists Brad Barber and Terrance Odean have studied the results of investors and especially those who trade -- that is, those who buy and sell stocks frequently in the belief they will outperform the market. The title of one of Barber and Odean's articles in The Journal of Finance synopsizes their findings: "Trading Is Hazardous to Your Wealth: The Common Stock Investment Performance of Individual Investors." Studying the results of 66,465 U.S. households with stock accounts, they discovered that in one five-year period, the most actively traded accounts made about a third less than did the accounts of investors who simply bought and held a basket of equities. They concluded that overconfident investors traded the most and had the worst results.
The really good news, though, is that you don't have to outsmart the market to become a millionaire. Statistically speaking, you'll get excellent results by diversifying widely in low-cost funds, staying invested in good times and bad and, most of all, investing regularly over a long period of time.