Edited by- Malaya Pani
The longer you let your money work hard, the more money you take home. If you keep investing your monthly commitment, you will walk away with a large sum.
Most financial planners advise investments in a disciplined manner to achieve seemingly unachievable goals depending on the time on hand and the risk profile of the investor. While individuals look for investments offering the highest possible rate of return, the tenets of personal finance however, ask investors to invest as much as possible for as long as possible.
This very basic input may not attract many followers. But in the reality this simple action of being regular with your investments can help you build large corpus. Let’s try to understand this with an example. There are four individuals who decide to invest each month till they retire at the age of 60 years. Their current age is 20, 30, 40 and 50 years. Each one of them decide to invest Rs 1,000 per month, a modest sum till the age of their retirement, in an equity mutual fund offering 12 percent rate of return per year. Here is how their corpus would look like when they retire.
If one starts investing Rs 1,000 per month at the age of 20 years and keep investing till he turns 60, he will accumulate a corpus of Rs 97.93 lakh. If one starts at the age of 30 years, then he will build a corpus of Rs 30.8 lakh. Everyone would like to retire like the 20 year old in the above example does. A point to note here is that all four of them have enjoyed the same rate of return – 12 percent per year. The exponential growth the 20 years old enjoyed is an outcome of the compounding the money sees over a long period of time of 40 years. The longer you let your money work hard, the more money you take home. If you keep investing your monthly commitment, you will walk away with a large sum.
The numbers clearly underline the fact that one should be more focused on investing as much as possible for as long as possible. The magic of compounding then works in the favour of investor. These two factors are in the control of the investor himself. However, while planning their investments most investors would instead chase the rate of return, which is not in their control.
The basic tenets of personal finance emphasis in stocks to generate superior returns. But as stocks are volatile, one needs to have a long term view. If you are keen to generate a high return, long term investing in equity funds are the way out. According to Value Research, a mutual fund tracking entity, multicap fund as a category has delivered 15.43 percent returns over past 10 years. However, if you have a relatively small time frame in the mind, say a year or two then it is prudent to invest in fixed income options. It in turn, reduces expected return on investment. Trying to invest in equity in short term increases the portfolio risk, experts say.
Investors thus would be better of focusing on long term investments to create wealth.
• Sensex, which has been a barometer for the Indian economy, has given 17%+ returns over the last 40 years
• If you had invested in Sensex 40 years ago, your returns would be much higher than gold or fixed deposits
• The Sensex is seen as the barometer of India’s growth and reflects the changes in the economy over time. So if stocks of companies in industrial, material and consumer discretionary segments, such as engineering, cement, fertilizers and consumer electronics, dominated the initial composition, the services sector came to represent it with the inclusion of financial services, telecommunications and others in the mid-1990s. From early 2000, sectors such as information technology, financial services, consumer discretionary, healthcare and even energy became important components of the Sensex.
• The SENSEX gave a compounded annual growth rate (CAGR) of 16.1% in the period from 1979 to 2019. If you take the total return index, then this is well over 17%. In the same period, gold gave a rupee return of 10%. “Over the last 40 years, the Sensex has given a CAGR of over 17% which is the highest return given by any asset class in India. It is a true reflection of growth of India over all these years.
• If you had invested ₹10,000 in a basket of stocks representing the Sensex and the same was rebalanced every time the Sensex underwent a change, then your corpus today would be over ₹45 lakh. The same amount of money invested in gold over the same period would be worth ₹4 lakh today and in bank fixed deposit would have grown to a little over ₹2.5 lakh, without factoring in the tax.With these numbers, there is no argument that supports a portfolio that is looking for growth not having adequate exposure to equity investments.
Where to invest: Investing not only enables you to save but also helps you to accumulate a corpus fund for your bad days.
Investment Ideas: "If you don’t find a way to make money while you sleep, you will work until you die: Warren Buffet".
This one sentence is the key concept behind any investment you are making or you plan to make. However, the question is - where to invest? The market is flooded with investment
options like equity to SIP to FD to NPS and you will have to choose from them as per your risk appetite.
Investing not only enables you to save but also helps you to accumulate a corpus fund for your bad days.
Many a time we tend to utilise our earnings from the investment. However, experts suggest to re-invest the money earned either in the same investment or in other investment.
You must have heard of the power of compounding. It is simply a method of re-investing your investment earnings back into the investment. "Power of compounding benefits more when you have a long horizon. This means early you start in life more you end up gaining,"
"If you start a SIP of Rs 2000 per month at 25 years of age and earn 10% return then you will accumulate Rs 68 lakh by age 60. But if you start at age 35 then you will be able to accumulate Rs 25 lakh which is a large difference of Rs 33 lakh. This is the power of compounding which shows that to reap its benefits you need to start early,"
However, if you want to invest either in the fixed deposits or Mutual Fund SIP, which one should you choose?
"Investors should invest in MF SIP as it is the asset class which provides the benefit of the power of compounding. One of the reason is that it has the probability of generating a higher return though it is volatile by nature,".
Power of compounding is essentially making your money work for you. Think about a daily wage laborer – if he works for 300 days, he will get more money than if he works for 100 days.
Your money, if invested wisely over a long investment horizon, is like a daily wage laborer;
every extra day your money works, will get you incremental money. Let us now understand it
from a theoretical perspective.
Money when invested earns returns – how much returns it earns, depends on the asset class and
asset type. Historical data shows us that, equity is the best performing asset class in the long term. Returns earned by your investments get added to your investments and the overall amount earns higher returns.
Let us assume you invested Rs 10 lakh @ 15% returns. After 1 year, you will make a profit of Rs
1.5 lakhs. This profit, unless it is withdrawn, will get added to your investment and your investment amount will be Rs 11.5 lakhs. In the second year, at the same rate of return, you will make a profit of Rs 1.72 lakhs, more than what you made in year one. This profit of Rs 1.72
lakhs will get added to your investment and your investment amount at the end of year two will
be Rs 13.2 lakhs. In the third year, at the same rate of return, you will make a profit of Rs 1.98
lakhs. The chart below shows the cumulative profit growth every year.
Apart from the power of compounding, SIPs enjoy another major advantage, especially in
equity mutual funds. Equity as an asset class is intrinsically volatile – prices move up and down
on a daily basis.
By investing through mutual fund monthly SIPs, you will be able to take advantage of volatility
by investing at various price levels. This is known as Rupee Cost Averaging. Over long
investment tenors, asset prices will follow a secular trend (unaffected by short term volatility).
Therefore, rupee cost averaging of purchase price can help you get enhanced returns in the long term.
You can create wealth by investing directly in shares of good companies or invest in them through Mutual Funds. Wealth can be created when we buy company stocks which use our money to grow their business, creating value for us.
Direct investment in shares carries a relatively higher risk element. You need to pick stocks by researching the company and sector. You have to understand the business model and future Business growth strategies, Credibility of management (Exp. Of Kingfisher, Jet airways, Yes Bank, Housing Development and Infrastructure Ltd (HDIL)), Debt or loan structure. It’s a humongous task to choose few companies from thousands of them listed on the stock exchange.
*** (BSE Listed- 5,439 numbers of Companies)
Once done, you need to keep a track of every stock's performance.
But in Mutual Funds, the stock picking is done by expert fund managers who are associated with this industry or stock market/companies since 10 to 25/30 Years. So fund Manager utilized their expertise while picking stocks or companies in their portfolio. So you need to keep track of the performance of the fund and not individual stocks within the fund. They also allow investment flexibility unlike stocks, with growth/dividend options, top-ups, systematic withdrawals/transfer, etc. besides helping to ride over volatility by investing smaller amounts regularly through SIPs.
