How power of compounding works in Mutual Fund SIP?
Last Updated on June 22, 2021 by Chitale CFS Pvt Ltd
Power of compounding is the eighth wonder of the world, said Albert Einstein once. That’s the power of compounding!
You might have heard the narrative of a grasshopper and the ants. This is one of the Aesop’s tales and portrays a grasshopper that spends almost complete summer singing and dancing while the subterranean ants work vigorously to gather food to survive throughout the winter.
At a point when the winter shows up, the grasshopper struggles to find food and remembers that ants have plenty of food. Grasshopper requests some food to ants and ants serve him some food. But with that ants also unleash some appropriately harsh criticism on grasshopper and tell grasshopper to collect some food for the survival during next winter instead of singing and dancing.
The crux of the story also applies to our attitude toward investment. We totally overlook the fact that we can gather a huge sum of money while we are earning instead of just spending the money on things that we do not need. So how we gather a huge sum? Through the power of compounding!
When we were in school we were taught that multiplication is more powerful than addition. This arithmetic is similar in mutual fund investments as well. This multiplier is called “compounding” in mutual fund investments. The power of compounding multiplies your money instead of just adding it up. The more you keep your money invested, the more powerful will be the equation of compounding.
What is power of compounding in mutual funds?
The definition of compounding in mutual fund is very simple. When you invest in mutual fund, you get an advantage of compounding where the interest you earn through your investment is reinvested in your principal amount so that you can purchase some additional mutual fund units during the next cycle.
So basically through the power of compounding in mutual fund SIP, you are earning additional returns on your principal plus returns collectively. When your capital is regularly re-invested along with the interest you earn, your portfolio grows with a much higher rate.
The Power of Compounding in Mutual Fund SIP
Mutual fund investment system is deliberately constructed to make best out of the power of compounding. When you keep your money invested for long term, you get maximum benefits from compounding.
You need to understand that the secret ingredient in mutual fund SIP investment recipe is “the time”. Most of us think that we do not need to invest in retirement plans or pension plans as we have a lot of time in hand but we often ignore the monster call inflation. This is the biggest misconception in the investment arena as the clock is continuously running and we can not afford to lose it.
So from mutual fund investment point of view, time is the ultimate game changer and it is the most important factor than any other factor in the mutual fund zone like market fluctuations, financial ratios, technical analysis, crisis situation etc.
How the power of compounding works?
Let’s check an example to understand the beauty of compounding. If you are a fresh graduate and have recently joined a company at the age of 25 years, investing at least Rs.5000 per month (considering investment returns of 15%) can give you more than 1 Crore (1 Crore 64 lakhs precisely) at the age of 50 years (just 25 years down the line). Not sure about this, click the below link and check for yourself.
On the other hand, if you invest the same amount at age of 35 years by losing first ten promising years of your employement from investment perspective, you will accumulate only 33 lakhs at the age of 50 years. That’s a loss of whopping 70 lakhs plus. So investing early is the key to get advantage from compounding.
Let’s also try to understand the power of compounding in another way. If you invest Rs.1,00,000 for 5 years in a mutual fund SIP with 15% expected returns, your portfolio grows to Rs. 7,75,373 at the end of 5th year so you earning on your Rs. 5,00,000 lakh investment will be Rs. 2,75,373.
On the other hand, if you put your money somewhere else with 15% interest, without the power of compounding, you will end up earning only Rs. 75,000 plain interest which is a loss of more than 2 lakhs rupees, which is almost 2.66 times more than what your could have earned from compounding.
You need to understand that likewise we work to earn money; you can also put your money to work so that it can earn more money for you. Money works for us only when we invest it in compounding rather than just keeping it in saving account which yields negligible returns.
Remember, every single rupee can bring more money to you if you take advantage of compounding power. Power of compounding also helps to beat the inflation in long run. According to ICICI, it is better to opt for daily compounding in case you are thinking whether it is better to compound daily or monthly as it offers slightly higher compound interest. You can also optimize your portfolio when you take advantage of power of compounding.
How to calculate your investment returns with power of compounding:
You can calculate your expected investment returns online through this SIP calculator. You can calculate the returns just by putting details like how much you wish to invest, for how long and with the expected rate of returns. You can click the below link to use SIP calculator to check the expected returns.
You can also make your investment plans for specific financial goals like child education, marriage or retirement by using below calculators.
To know more about power of compounding or how you can reach your investment objectives through the power of compounding or any other benefits of compounding, you can contact us through below contact details. You can also check out the best investment plans for mutual fund sip investments that suit your financial needs.
Why Chitale CFS Pvt Ltd?
Chitale CFS Pvt Ltd offers wide variety of investment avenues for short as well as long term investment needs. With more than 30+ years of experience, we are one stop solution for a number of financial products like Mutual Funds, Insurance, Bonds, Fixed Deposits etc. We serve our clients with highest standard of transparency and integrity by putting investor’s interest first.
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