Warren Buffett wasn’t always a billionaire. In fact, he didn’t even achieve this title until his 50s:

Net word of Warren Buffett

So, how did one of the wealthiest individuals on the planet, known for long-term, accrue roughly 99% of his wealth after age 50?

While Buffett is renowned for his value investing strategy, financial acumen, and strict frugality, the power of compound interest was the real driver of his astronomical wealth.

A history of discipline

Buffett began his investing career early, netting modest and consistent returns. However notable these returns were, they were nothing compared to what would come.

During his early years, Buffett was heavily influenced by Benjamin Graham, “the father of value investing.” Graham was even Buffett’s professor at Columbia Business School.

Graham’s approach was to buy companies trading below their intrinsic value. That is, invest in companies whose share price didn’t reflect what the company was really worth based on its fundamentals, like its revenues, expenses, and profits or losses.

As you can see from the following chart, Buffett was only worth $26,000 in his mid-twenties. While it may be hard to believe, this modest foundation was the seed that would generate his life’s fortune.

The Berkshire Hathaway era

It wasn’t until he reached the age of thirty—after Berkshire Hathaway was formed—that his net worth reached seven figures. While impressive, one million dollars, it turns out, would be a drop in the bucket.

The early days at Berkshire brought about a shift in Buffett’s investment style. What began as strict value investing transitioned into a more qualitative approach.

In practice, this meant Buffett wanted ownership in businesses he knew, trusted, and loved. It would be a disservice to call these trades; these were investments meant to be held for the long term.

This philosophy was heavily influenced by Buffett’s longtime friend and Vice Chairman of Berkshire Hathaway, Charlie Munger.

Buffett's investment style evolved from the time he was a young child into his twenties, thirties, forties, and beyond. But one thing remained consistent with his formula: buy and hold.

While his love of holding names may seem tedious, his returns are most certainly not. As the previous chart shows, what starts slow ultimately explodes with exponential growth.

Simple vs. compound interest

Compound interest is the interest calculated on the initial principal and all the accumulated interest. It differs significantly from simple interest, calculated only on the initial invested amount.

A return generated by investing in the stock market is an example of compound interest.

For example, if you invest $100 into stock XYZ and it grows to $120 at the end of the year, you earn $20—or 20%—on your initial principal of $100.

Now, imagine the stock appreciates another 20% the following year. This 20% growth affects not just your initial principal but the accumulated interest of $20 as well.

Your $120 becomes $144. That means you earned $24 the second year. That’s $4 more than you made in year one despite the stock performing the same.

The power of compound interest

Now that you understand the basics of compound interest, it’s time to appreciate its power. The effects of compounding are almost magical.

Let’s use a modest example with a figure many can envision saving.

Imagine you have an initial investment (principal) of $10,000. Assume you invest this amount and earn 10% per year. This is roughly the return the S&P 500 has achieved over the past century.

If you made no additional contributions, how much money would the $10,000 be worth after 50 years?

Put another way, if you invested $10,000 in the stock market at age 20 and never anything more, how much would it be worth when you turned 70?

Answer: $1,173,908.24.

That’s right. If you invested $10,000 and left it for 50 years at the average stock market rate of return, you would earn well over one million dollars.

Again, this is the broad stock market return. This assumes no financial savviness, just the ability to obtain the market return. This isn’t picking Apple in the 80s; this is throwing darts at a board… while blindfolded.

How do you obtain the market return?

A lot has changed on Wall Street since Buffett rose to prominence. The product landscape has become increasingly complex, often to the detriment of retail investors.

Fortunately, some things have improved. Retail investors now have access to a product that may have changed how Buffett initially invested: the exchange-traded fund (ETF).

ETFs are relatively new. So new that Buffett would have been 63 years old when the product was first launched in the 90s.

ETFs give investors a transparent and cost-effective method to obtain diverse exposure to assets, like stocks, with relatively little minimum investment. This makes them ideal for novice investors looking to begin a disciplined savings regiment like the Oracle of Omaha.

While it’s true Buffett likes to select particular names for his portfolio, he’s still a fan of exchange-traded funds.

In his 2013 annual letter to shareholders, he revealed that 90% of his wife’s inheritance would be transitioned into a “very low-cost S&P 500 index fund” upon his passing.

The remaining 10% allocation will go to short-term government bonds.