Know the power of compounding via SIP route: Is it magic or logic?
Mutual funds help grow money over a long-term horizon; one particular variant can also help save tax. This is why many investors involve mutual fund investments as part of their financial planning to secure their future. Similar to other investments, mutual funds too need time to weather market volatility and draw good returns.
The article explains the power of compounding and how including mutual funds in your financial plan can benefit you.
Power of compounding via SIPs
Let us assume you wish to build a corpus of Rs.1 crore in 12 years.
If you invest in fixed return-bearing investment options, you could profit from a mere 8% interest rate. And to achieve your target, you will need to invest Rs.42,000 per month at the rate of 8% for 12 years.
But, if you invest in equity mutual funds and hybrid schemes via the SIP route, here is how you can reach your goal.
If you invest in a SIP, you can expect returns around 15%.
So, assuming a return of 15% the monthly SIP amount can reduce from Rs.42,000 in a fixed instrument to Rs.25,000 per month. Plus, if you increase the SIP amount in line with the increase in your income you can reach your financial goals sooner.
Consider stepping up your SIPs by 10% every year. In that case, the monthly SIP amount could further reduce from Rs.25,000 to Rs.16,500.
The key to getting good returns is to stay invested for a long term such as 10 years or more.
Building a larger corpus
The sooner you start investing, the larger corpus you can create because of the power of compounding.
Here is an example to understand this point:
Say, Mr. X began an investment routine of Rs.2000 annually at the age of 19 and stopped at 27.
He then locked his investments until retirement.
On the other hand, Mr. Z began investing the same amount at age 27 until he reached 58.
Assuming an 8% rate of return, let us compare their earnings at the age of 58.
Age (Years) Mr. X Mr. Y
Annual Year-end value Annual Year-end value
value (Rs.) (Rs.) value (Rs.) (Rs.)
19 2,000 2,160 0 0
20 2,000 4,493 0 0
.. .. .. .. ..
.. .. .. .. ..
26 2,000 22,975 0 0
27 0 24,813 2,000 2,160
28 0 26,798 2,000 4,493
.. .. .. .. ..
.. .. .. .. ..
57 0 2,49,686 2,000 2,66,427
58 0 2,69,661 2,000 2,89,901
Less Total Investment 16,000 64,000
Total 2,53,661 2,25,901
Growth of investment 16 fold 4 fold
Through the example, we can see how Mr. X has enjoyed enhanced mutual funds benefits by investing early via SIPs and letting the money compound for the long term.
Conclusion
It is a wise choice to invest in mutual funds online as early as you can. This can give you a long-term horizon to stay invested and reap the maximum benefits of mutual funds through the power of compounding.
