“Most great fortunes are built slowly. They are based on the principle of compound interest, what Albert Einstein called, ‘the greatest power in the universe’.”
– Brian Tracy (American-Canadian motivational speaker)
“Compound interest is the eighth wonder of the world. He who understands it, earns it; and he who doesn’t, pays it.” Give us some moment so that you can earn it.
When we say simple interest, it means, you are receiving interest on the original principal amount. Hence, you receive the same interest rate throughout the investment period. This is much more evident in sovereign gold bonds (SGB) as here; you receive a simple interest of 2.5 %t or in case of some Fixed Deposit where you receive 7% to 8% simple interest. On the contrary, in the case of compound interest, you not just receive interest on your initial investment but also, on the previously accumulated interest. This means you are receiving interest on your principal as well as on your interest.
Let us understand this with the help of an example. Say, for instance, there are two friends Rohit and Amit. Both invested Rs 5,000 every month for 10 years. However, Rohit invested in security that provided simple interest and Amit invested in security that provided him the compound interest. Both received interest of 8 per cent per annum. Now, let us look at the amount that both must have accumulated in the span of 10 years.
Let us now understand how the power of compounding works on your investments.Indeed, compound interest wins as against simple interest. Having said that, the early you start investing, the better it is. This is because to see a noticeable benefit of compounding, your investment horizon needs to be long-term.
For example, an amount of Rs 100000 invested in a security that gives you interest rate of 6% compounded yearly for a period of 10 years. This would grow to Rs 179084/- in which 10.44% of additional return is generated due to compounding effect as you can notice in the below pie chart. The power of compounding on investment increases at longer end of investment horizon.
Below chart will give you more clear understanding on effects of compounding on investments.
There was an issue displaying the chart. Please edit the chart in the admin area for more details. There was an issue displaying the chart. Please edit the chart in the admin area for more details.
Starting early helps you to reap the maxim benefits of compound interest. To understand this, let us take another example.
Rohit and Amit both started investing in mutual funds. Rohit started investing at the age of 25 years and Amit started investing at the age of 30 years.
At the time when both turned out 50 years of age, they accumulated total investments of Rs 12.50 lakh each in their respective mutual fund SIP folio. i.e Rohit has invested Rs 50000/- per year (monthly SIP of Rs 4170/-) and Amit has invested Rs 60000/- per year (monthly SIP of Rs 5000/-)
Now, assuming that both earned return of 12% p.a compounded annually, at the age of 50 years, Rohit gets 1.50 crores and Amit gets 94.90 Lakhs as their investment value.
Below chart will help you to understand how the power of compounding benefits additional returns on your SIP investments by simply starting early investing.
If you notice below Rohit achieved wealth of 1.50 crores by just investing monthly SIP of Rs 4170/- and Amit achieved wealth of Rs 94.90 lakhs only by investing Rs 5000 monthly SIP as Rohit started early investing.
There was an issue displaying the chart. Please edit the chart in the admin area for more details.
There was an issue displaying the chart. Please edit the chart in the admin area for more details.
Benefits of compounding & starting early:
- Starting early gives you the benefit of investing smaller amounts.
- Staying invested for a longer period of time helps you to reap compounding benefits and get better risk-adjusted returns.
- Compounding helps you to achieve your financial goals.
Further, long-term investment in mutual funds adds to the benefit of compounding. However, it in no way means that you should get committed to a particular mutual fund. In fact, you should monitor your mutual fund portfolio quarterly in order to have a timely exit from a not so good mutual fund scheme.
Identity Investments helps you in having a properly articulated mutual fund portfolio with seven funds with a combination of different asset classes such as equity, debt, and gold that aim to optimise your return on investments. It is designed in such a way that it can provide a better investment experience as well as stress-free life ahead.
We take care of your investments with real time portfolio tracking and online transaction access for quick actions at zero cost to help you achieve your financial goals in much better way.
To know more about offer on our Mutual Fund service do click the button below
As a part of an investment process we activate one-time client master on BSE star MF. There after investor gets complete online access to their investment portfolio.
