What’s the best way to make a million in the stock market? Ask 100 people and you’ll likely get 100 different answers. But the method I’d use is one that US investing legend Warren Buffett has often mentioned. It’s also simple and cheap.
Getting started: £20k
My plans are based on the goal goal of hitting £1m at age 60. In my view, a £20k lump sum could be enough to make that happen.
Warren Buffett has often commented that for most investors, he thinks an index tracker fund is the best way to invest. He’s at pains to point out that very few investors consistently beat the market, even professionals.
Over the last century or so, the long-term average return from the UK stock market has been about 8% per year, including dividends. Past performance isn’t a reliable guide to the future. But I estimate that if average returns remain the same in the future, it would take 50 years for my £20k investment to hit £1m.
If I’d started my index tracker investment at age 20, I’d just make it to £1m by the age of 70.
This is a great example of why it makes sense to start a Stocks and Shares ISA for children when they’re as young as possible. But it’s not much good to me now. My 20s are a distant memory.
Juice things up
While I’m still working, I aim to make regular monthly payments into my ISA. Adding these to my initial £20k should improve my returns significantly.
For example, my sums indicate that investing an extra £250 per month in a FTSE 100 tracker fund could see me make a million after 37 years. Similarly, increasing my monthly payment to £400 could see me hit £1m after just 33 years.
By combining regular monthly payments and an initial lump sum, I should be able to speed up my progress. But 33 years is still a long time. Is there anything else I could do to improve my returns?
Could I make a million with growth stocks?
Investing in small, speculative growth stocks can deliver much bigger profits. But it’s a specialist area with a lot of potential risk. It’s easy to lose a lot of money, as many growth companies don’t succeed.
After all, the UK stock market has 1,117 companies valued at under £500m, but only 174 companies valued at over £2bn. Most small companies stay small.
When I’m looking for growth, I prefer to focus on the FTSE 250. These mid-sized companies are generally already profitable and successful. They’re big enough to survive when times are tough, but still small enough to deliver strong growth.
The FTSE 250 has risen by 76% over the last 10 years, compared to just 13% for the FTSE 100. I can’t be sure this outperformance will continue. But to improve my chances of benefiting from the success of smaller growth stocks, I’d put half my cash into a FTSE 250 tracker and half into the FTSE 100.
To increase my exposure to proven winners, I might also use some of my funds to build a portfolio of hand-picked quality stocks. I’d look for companies with above-average profit margins and a track record of beating the market.
I’d hope that taking this approach might provide the boost I’ll need to reach my £1m goal by the time I’m 60.
Roland Head has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.