How to Make a Million UK Pounds

According to the Camelot Group around 70% of the adult population regularly play The National Lottery. Personally, I find that number worryingly high. So while I suspect 70% of the population think that this is one method to make a million I personally don’t like the odds with around a 1 in 14,000,000 chance of hitting the big one.

I’m going to propose an alternate method for UK residents. Unfortunately my method is not as instantaneous and involves a lot of dedication. However I think my method has much better odds.

So how does it work?

The first thing I need is a stocks and shares ISA. These are a great product as once your money is invested in one all returns are tax free. I have to be careful though and ensure my stocks and shares ISA does not charge me an annual fee. As of the 6th April 2010 every UK saver will be able to invest up to £10,200. For my method I’m going to suggest I stay very focused and invest the full £10,200.

The next thing to do is to decide what stocks and shares to buy within my ISA. Tim Hale in his book “Smarter Investing : Simpler Decisions for Better Results” suggests that the arithmetic average for UK real (after inflation) equity returns could be 7.0%. He also suggests UK real (after inflation) bond average returns could be 2.3%. So I’ll take these two building blocks and build a basic portfolio that consists of 60% UK equities and 40% UK bonds. I then decide to rebalance this asset allocation regularly. This could give me an average real return of around 5.1%.

Now I need to buy those equities and bonds. With a bit of shopping around I should be able to find exchange traded funds (ETF’s) for both UK equities and UK bonds to buy within my ISA with fees of less than 0.5% per annum. I’ll be conservative and assume I spend the whole 0.5% meaning my average expected return is now 5.1% - 0.5% = 4.9%.
Now of course the UK government always wants a bit of inflation. Since 1988 the average of the Retail Prices Index (RPI) has been around 3.5%. So I’ll add the inflation on 4.9% + 3.5% = 8.1% to give an average expected annual return.

Now I’m going to let the magic of compound interest go to work.

After 5 years I’ve invested £51,000 of my own money and assuming straight line average returns I might have around £65,000.

After 15 years I’ve invested £153,000 of my own money and compound interest has started working for me as I might have around £302,000.

After 25 years I’ve invested £255,000 of my own money and I might have around £821,000.
Finally, after 28 years I’ve invested £285,600 of my own money and I might have around $1,073,000. I’m a millionaire.

Of course in 28 years my one million pounds won’t have the buying power of today. Assuming the 3.5% inflation I mentioned above means my £1,000,000 would be worth around £587,000 today. That however is still a lot of money.

As always DYOR.