Can you pull off a millionaire with ETFs alone? | Smart Change: Personal Finances

It is a common belief that investors get richer by picking individual stocks and beating the market. While that may be true, stock picking isn’t the only way investors can build wealth. Funds – ETFs in particular – can also make you a millionaire, although many of them never beat the market.

In truth, the broader market offers enough growth potential to build a seven-figure retirement fund. Follow the four rules below to harness that market power and achieve your wealth goals without having to pick a single stock.

Funds have administrative expenses that they pass on to shareholders. These expenses dilute the returns of the underlying equity portfolio. If you choose profitable funds, more of the ETF’s earnings go to your bottom line.

The expense ratio is the metric you’ll use to compare funds on profitability. You will see this number presented as a percentage which represents a fraction of 1%, say 0.10%. An expense ratio of 0.10% equates to spending $10 for every $10,000 invested.

Some index ETFs have expense ratios close to zero. iShares Core S&P 500 ETF and Vanguard S&P 500 ETFfor example, both have expense ratios of 0.03%.

If your 401(k) doesn’t offer low-cost ETFs, ask your administrator if your account has a brokerage window. Or invest these funds in an IRA or taxable brokerage account instead.

Asset allocation is the composition of your portfolio between different asset classes, such as stocks and bonds. Stocks provide growth, with some risk, while bonds provide stability. You can combine the two to tailor the risk and return characteristics of your portfolio.

Since you’re aiming for millionaire status in retirement, you’ll want a higher percentage of stock ETFs compared to bond ETFs. If retirement is still decades away and you can handle some volatility, you could hold up to 90% equity funds. Start with a lower percentage if retirement is 15 years away or if stock market volatility makes you nervous.

To raise seven figures with ETFs, you need to invest generously and consistently – for decades. The figures in the table show the monthly contributions required to reach $1 million according to different timelines. Note that monthly contributions may include matching from your employer.

Data source: Author’s calculations via Investor.gov.

All scenarios assume average annual growth of 6%, slightly less than the long-term stock market average after inflation. This growth rate should be achievable over 20+ years in a retirement portfolio rich in equity ETFs.

You can see that the monthly contribution becomes unmanageable if you wait too long to start investing. This is your cue to launch this plan today. Even if you’re 30 years from retirement and can’t afford to contribute $1,000 a month, invest all you can today. You can increase your contribution later as your income increases.

Whatever happens with the stock market, commit to staying invested and continuing to contribute. If you start withdrawing contributions or selling to avoid losses, you may never reach that million dollar goal.

It may seem counterintuitive, but selling to avoid losses is usually lowers your feedback. For example, the market is falling, so you sell at a lower price to stop the bleeding. You then wait until the market has stabilized to reinvest. At this point, you are buying back your shares at higher prices than when you sold them. Selling low and buying high creates a loss, which reduces your long-term returns.

If you hold onto your investments when the market turns bad, you don’t have to worry about when to reinvest. You also remain well positioned to take advantage of market recovery.

You can pull off a millionaire with ETFs. The strategy is to ride the long-term growth trend of the market. For this to work, you need to choose low-cost funds, be strategic in your asset allocation, and invest consistently over time, without being scared off by market fluctuations.

Investing in ETFs isn’t the sexiest way to get rich, but who cares? A millionaire’s retirement is sexy in itself, no matter how you get there.

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Catherine Brock owns the Vanguard S&P 500 ETF. The Motley Fool owns and recommends Vanguard S&P 500 ETF. The Motley Fool has a disclosure policy.