This concept – compounding – struck him as critically important… If he started with a thousand dollars, and grew it ten percent a year.
In five years, $1,000 became more than $1,600.
In ten years, it became almost $2,600.
In twenty-five years, it became more than $10,800.
The way that numbers exploded as the grew at a constant rate over time was how a small sum could turn into a fortune. He could picture the numbers compounding as vividly as the way a snowball grew when he rolled it across the lawn. Warren began to think about time in a different way. Compounding married the present to the future. If a dollar today was going to be worth ten some years from now, then in his mind the two were the same.
Page 60-61 The Snowball: Warren Buffett and the Business of Life
The above story is from when Warren Buffett was just a wee tyke of 11. When you were 11, did you even have thoughts close to the ones Warren was having? Hell, you were probably just discovering masturbation for the first time. I had an interest in business and investing from a pretty young age, but young Warren got at the plan a lot quicker than young Nelson did. I was well into puberty before I started my interest in business and investing, and I was pretty much an adult before I really started to understand anything more than the absolute basics.
If you read The Snowball (and I would definitely recommend it – in fact, I already have) you’ll figure out very quickly that Buffett did all sorts of frugal things in order to save a few bucks. He was also relentless in trying to maximize his income, doing everything from buying pinball machines to selling golf balls in an attempt to make money, before he even graduated from high school. Buffett knew he wanted to be wealthy one day, and he knew maximizing his income early on was important. If every dollar was viewed the same as ten dollars, these were easy decisions to make.
Some of you already know that this concept is called opportunity cost. If you don’t start saving for retirement until you’re 40, you’ve incurred all sorts of opportunity costs, simply from all the time you’ve missed out on compound interest. And, at least from an investing perspective, that stuff is better than crack.
So, let’s get back to the title of the post. Why would Warren Buffett make a bad personal finance blogger, anyway? The dude is smart, funny, (at least, for an 80 year old) and has a way of explaining complicated concepts using simple language. He’s got all sorts of interesting stories (the guy essentially had two wives for years) and he’s probably forgotten more about business than any of us would ever know. All of this sounds like Buffett would make a very good personal finance blogger, except I’m pretty sure he doesn’t even know what a blog is. Remember, the guy is an octogenarian.
It’s simple. Buffett wouldn’t make a good PF blogger because he understands opportunity costs much better than everyone else does. Do you think Warren Buffett would go on a vacation when he had any sort of debt? He would look at that $2500 and envision the $113,000 he could turn it into over 40 years (and assuming a 10% return). Or, he would plunk the cost of the vacation onto the debt, because he knows every dime he paid in interest would end up being much more expensive in the long run.
Buffett certainly wouldn’t throw up his hands and give some lame excuse for making a bad financial decision, because he gets just how costly that decision really is. That’s not to say Buffett didn’t make some financial mistakes – of course he did. Buffett got up, dusted himself off, and learned from the process. But he never forgot the lesson he learned about compound interest, which ensured those financial mistakes were few and far between.
How many of you look at a $2500 vacation as a $113,000 expense? I bet it’s only the nerdishly fanatical people. I used to be relentless at this kind of stuff, choosing to live in my parents’ basement as a young adult in order to save more money. I had no car, because I actually figured out something similar to Buffett as an 18 year old. Plus, owning a car would take up about half of my meager $7000 income as a student, and that wasn’t even counting the opportunity costs of buying the car in the first place. If you thought my earlier example was impressive, try increasing the compounding period from 40 years to 50.
Perhaps, instead of looking at your vacation/new car/new iPhone/whatever as only costing you $x, try doing it the Buffett way. Figure out how much that the cost of the item would net if you invested it until you reached 65. Look at how many potential thousands of dollars you’d be throwing away.
As the cliche goes, you’ll only be young once. (Unless someone invents a time machine, WHICH WOULD BE AWESOME) The expression has been used as an excuse for young people to do stupid things for years. Screw up? Hey, no problem, you’re only young once. You’ll bounce back. You’ll have plenty of time to make that money back. And so on. But, what if you looked at that expression in a different way? Your money will never get the opportunity to compound as much as it will if you invest right now. For every minute that you wait, your investments suffer just a little bit.
Don’t assume you’ll have lots of opportunity to invest when you get older. You might, but compounding is begging you to get started now. Just imagine compound interest is a hot chick/guy, depending on what you’re into. (Bonus if you’re into both) You don’t want to let someone sexy down, do you?