As it is widely attributed to Einstein whether he said it or not is a point of debate. compounding is Eighth wonder of the world cannot be debated.Whole premises of the post will emphasise this point throughout the essay.We all have a dream to be rich and able to retire as early as possible . At least be financially free and rich while we work for passion.
The Beginning of working life
let us start with Anthony gonsalves who starts his career at the age of 25. His starting salary is 25000 rupees. He has no liabilities apart from taking care of his personal needs.he has a demanding job and has not much time for researching and picking stocks neither he has the skills to do that.A after taking care of his expenses he is left over with Rs,15000 per month for investment. For greater appreciation of money no investment can beat stock market.
Taking care of the uncertainties
But as he has no skills in the game, what he need to do is invest though mutual fund route.The rule of thumb says that 100-your age, should be your total exposure to equity market at its maximum limit. But before committing to investment, he must take care of some basic risk associated with life. He should take a medical cover . The cost of medical treatment is sky rocketing these days and quite unaffordable too. It can make haywire your future plans. If there are no dependents there is no need to take life insurance.But here is a catch ,if you start your life insurance at early age, your premium amount gets locked at that age basis and you get it comparatively cheaper than, when you buy it in later years. So it is suggested that you take a simple life cover of adequate amount also. so for example 2000 for medical insurance and 2000 for life insurance are taken by Anthony Gonsalves
The compounding machine
Now he is left with investible surplus of Rs.11000/ .what is the best way for him to maximise his returns while taking adequate risk contains measures. what our old rule of thumb says. he can invest 75% in equity. so he can invest 8250 in equity and rest in bank fd or any debt fund. A simple back of the envelope calculation gives him return of Rs.20 lacs . if he just keeps investing this amount every month for 10 years( We have taken returns at 12 % for ease of calculation, returns of course can vary ).HIs other Rs, 2750 can fetch him Rs 450000 at ROI of 6 %.
Now as we all know his salary is not going to be static ,there will be annual increments and bonuses too as Anthony gonsalves is high performer in his job. Take for example he decides to increase his investment each year by Rs, 5000, Any guesses ,what he can expect at the end of 10 years of his investment.His kitty can swell to Rs.58 lacs.and those Rs 4.5 lacs of course will be there for him, taking the total to approx,62.5 lacs.not a bad sum for Anthony gonsalves.
Now he should not get all dreamy and start on the investment journey without making provisions for contingencies.
Experience says that Anthony gonsalves should keep 6 months of his expenses as contingency fund. His expenses are Rs.10000 per month ,it means he need to keep Rs. 60000 in his saving account linked with term deposits, state bank calls it premier saving account linked with MOD.
Once Anthony makes his contingency fund he can embark on his investment journey with confidence and let the worlds eighth wonder work for him.
RICH AND HAPPY
suppose he decides to increase his investment journey to 20 years, the same Rs.8250 will give him returns of Rs.76 lacs almost 4 times what he got at 10 years.and if he decides to increase his investments by Rs,5000 every year, he can expect his kitty to swell to Rs.350 lacs almost 6 times his earlier return of 10 years. Such is the power of compounding.let it work for you, you will get rich eventually and if it works against you ,like you are in debt, it cuts you equally badly.
Lesson for Anthony gonsalves here, make compounding your friend from the start of your carrier itself and get free financially before long.