Mutual Funds- Power of Compounding

July 2, 2018.Saurabh Madhusudan Patel.3 Likes.0 Comments

Wealth is not just created by earning windfall income once by gambling or speculation. Creating wealth is just like an art and it can be only be done successfully by handling one’s resources skillfully. There is no doubt that discipline and patience lead to wealth management and creation. No matter how much amount is kept aside, it all gets accumulated in the ocean that you dream of. A number of us do tend to ignore the fact that the power of compounding is the only accelerator of building a great amount of wealth.

Compounding is defined as the interest that is earned again on the interest. This earning with the interest actually leads to a substantial growth in savings and investments.  You can also start investing with a very small amount of money also as the most important thing is not the initial amount of investment but is the amount of time for which you are actually investing.

What is compound interest?

The main aspect of compound interest is that it will generate earnings based on the previous earnings along with the base amount of money. So the point is to build a huge base so that it can keep on adding earnings to it. So if INR 1 lack is invested as an initial investment and it is compounded at a rate of 10% per annum and the time is for 15 years, the base price will be INR 417,725. This is the way by which compounding actually creates a cycle of earnings and it keeps on growing.

As an investor, you always have to keep in mind that the pivotal point of compounding is that the earnings that are generated by the investment are again reinvested. For this reason, only, you should not take the returns or withdraw any sum of money at any point. This is because the withdrawal of these earnings won’t let the base of the investment to grow further more.

Compounding in mutual funds

The mutual funds are actually designed in a way so that they can harness the power of compounding.  You will make gains as an investor when the values of each unit of your investment unit go up. After you have made your investments for a long period of time your investment will grow with the help of the benefits of compounding. This thing happens particularly in the case of mutual funds and this is because the money that is generated in forms of capital gain can create returns in the future. If you invest INR 1000 for each and every month in a mutual fund for the next ten years with a rate of 8% per annum, the total sum of money will be INR 1, 63,920. The total investment in 10 years was actually INR 1, 20,000 and with time it returned a total sum of INR 1, 63,920. If now again you want to invest this sum for another 10 years, the reinvestment will result in INR 4,46,589.  This is the most special thing of compounding where all the factors ultimately contribute a further gain.

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