Have you ever wondered how long it would take to grow a small Tax-Free Savings Account (TFSA) into a sizable amount of savings?
The answer ultimately depends on your investment strategy. If you play it extremely safe, with broad market exchange-traded funds (ETFs) and a high allocation to bonds, you could get there in a few decades. If you make some riskier bets, then you could get there in a decade or two. Any strategy that involves turning a small sum, let’s say $5,000, into 10 times its original amount in fewer than 10 years will involve a very heavy dose of luck.
In this article, I will explore three possible paths to growing a $5,000 TFSA to $50,000, starting with the most straightforward.
Image source: Getty Images
Average market returns: 24.5 years
If you earn a “typical” stock market return — that is 10% per year with dividends and capital gains combined — you could turn a $5,000 TFSA into $50,000 in about 24-and-a-half years. That estimate comes from the fact that a 1,000% return occurs somewhere between 24 and 25 years, compounding at 10%.
Which investments reliably produce “average” returns?
Index funds!
Broad market index funds like iShares S&P/TSX Capped Composite ETF (TSX:XIC) replicate entire stock market indexes, such as the TSX Composite Index. XIC itself holds 226 stocks, which is 94.16% of the TSX Composite’s holdings. So, when you buy it, you are guaranteed to get the return of the TSX less a small fee and tracking error. Speaking of which, XIC’s fee is a mere 0.04% — one of the lowest you’ll find among pooled investment vehicles anywhere. Lastly, the fund is very liquid, trading in high volume. This means that you don’t lose much to bid-ask spreads when you trade it.
With high risk and luck: 10-20 years
With high risk and a bit of luck, you could possibly turn $5,000 into $50,000 in 10 to 20 years. Here, you’ll want to buy individual stocks, probably smaller-than-average ones, and do thorough research to make sure that they are exceptionally good opportunities. Some professionals who do this can get returns of 20% or better for prolonged periods. It takes about 13 years to turn $5,000 to $50,000 at a 20% compounded annual rate of return. This might sound enticing, but it’s not something that the average person can realistically hope to accomplish.
Dollar cost averaging
As the paragraphs above illustrate, it takes a long time to turn $5,000 into $50,000, even if you earn superior returns. That might sound like a downer, but there’s an alternative way to turn your initial $5,000 contribution into $50,000: dollar cost averaging.
This is where you make regular small deposits once every week or every other week and invest each of them into stocks and funds. Here, your initial $5,000 balance grows to $50,000 eventually, perhaps at a 10% per year rate. However, you are also adding to your initial balance. This isn’t really a pure “investment” return: part of the effect is influxes of cash from outside of your TFSA. But over time, it can make a big difference.
