How Compounding Helps in Wealth Creation?
Basically, compounding is a long-term investment strategy. For example, when you own a mutual fund, compounding allows you to earn interest on your principal. Compounding also occurs when you re-invest your earnings. In the case of mutual funds, this means re-investing your interest or dividend, and receiving additional units. By doing such a thing, you are earning a return on your returns and the principal. When the principal is combined with the re-invested income, your investment will grow at an increased rate
For example, at an annual interest rate of 8 per cent, a Rs 1,000-investment every year will grow to Rs 50,000 in 20 years. While at a 10 per cent rate of interest, the same investment will fetch you Rs 63,000 in 20 years. So, it is quite clear that a 2 per cent difference in the interest rate can make you richer or poorer by Rs 13,000. And, by staying invested for a longer period, your capital will earn more money for you.
Let's see how the concept of compounding works. Suppose Sachin started investing Rs 2,000
per year at the age of 19 and when he reaches 27, he stops investing
and locks all his investments till retirement. Robin, however, doesn't
make any investment till he is 27. At 27, he starts investing Rs 2,000
a year till the age of 58. The adjacent table tells you how their
investments would turn out when they both are 58, assuming that the
growth rate is 8 per cent per annum. The results are eye-popping (see
Compounding: A Tale of Two Investors).
Meaning :
 | ||||||
| Power of Compounding |
What is 'Compounding'
Compounding is the process in which an asset's earnings, from either capital gain are reinvested to generate additional earnings over time. This growth, calculated using exponential functions, occurs because the investment will generate earnings from both its initial principal and the accumulated earnings from preceding periods. Compounding, therefore, differs from linear growth, where only the principal earns interest each period.Basically, compounding is a long-term investment strategy. For example, when you own a mutual fund, compounding allows you to earn interest on your principal. Compounding also occurs when you re-invest your earnings. In the case of mutual funds, this means re-investing your interest or dividend, and receiving additional units. By doing such a thing, you are earning a return on your returns and the principal. When the principal is combined with the re-invested income, your investment will grow at an increased rate
For example, at an annual interest rate of 8 per cent, a Rs 1,000-investment every year will grow to Rs 50,000 in 20 years. While at a 10 per cent rate of interest, the same investment will fetch you Rs 63,000 in 20 years. So, it is quite clear that a 2 per cent difference in the interest rate can make you richer or poorer by Rs 13,000. And, by staying invested for a longer period, your capital will earn more money for you.
Meaning :
Comments
Post a Comment