In This Article:
The median annual income for full-time workers aged 25 to 34 was $59,000 in the fourth quarter, according to the Bureau of Labor Statistics. That means after-tax earnings would total roughly $45,000 in the worst-case scenario. Financial planners often recommend saving 20% of after-tax earnings for retirement, which means the median worker aged 25 to 34 should be saving about $9,000 per year, or $750 per month.
Even half that figure invested wisely could grow into a sizable portfolio given enough time. For instance, $375 invested monthly in the Vanguard S&P 500 ETF (NYSEMKT: VOO) would be worth at least $592,100 in three decades after taxes and fees. And that sum could be reinvested in the Vanguard High Dividend Yield ETF (NYSEMKT: VYM) to generate about $17,900 per year in dividend income.
Here's what investors should know.
Step 1: Invest $375 per month in the Vanguard S&P 500 ETF for 30 years
The S&P 500 (SNPINDEX: ^GSPC) measures the performance of 500 large U.S. companies that cover about 80% of domestic equities in terms of market capitalization. Because of its scope and diversity, it is often considered the best barometer for the entire U.S. stock market. The Vanguard S&P 500 ETF tracks that index. The five largest holdings are, as listed by weight:
-
Apple: 7.2%
-
Nvidia: 6.1%
-
Microsoft: 5.9%
-
Amazon: 3.9%
-
Alphabet: 3.6%
The S&P 500 achieved a total return of 1,750% over the past three decades, compounding at 10.2% annually, even though the index struggled through four bear markets and the U.S. economy was hit by three recessions. That period covers such a broad range of economic conditions that investors can reasonably expect similar returns over the next 30 years.
However, I will assume slightly more modest upside of 10% annually to introduce a margin of safety. At that rate, $375 invested monthly in the Vanguard S&P 500 ETF would be worth $740,200 after three decades if all dividends were reinvested. At that time, the balance can be reinvested in another index fund that pays a higher dividend.
Here, the math becomes a little more complicated because selling the Vanguard S&P 500 ETF may or may not be a taxable event depending on the account type, and capital gains tax, if any, will vary based on state of residence and filing status. However, in the worst-case scenario, the associated fees and capital gains tax would consume about 20% of the $740,200, leaving about $592,100.
Step 2: Reinvest the balance in the Vanguard High Dividend Yield ETF after 30 years
The Vanguard High Dividend Yield ETF measures the performance of about 520 companies forecasted to pay above-average dividends. Its constituents are generally considered value stocks, and the dividend yield is currently 3.05%. The five largest holdings are, by weight: