Magic of Compounding – One day, Suresh wakes up early in the morning and in a joyous mood. His wife asked you are looking happy today, what are the reasons behind this happiness. He replied, I already converted my conventional SIP into Step-Up SIP last year and did his Retirement planning now.
I can see my better future. It would be much better if I have started everything early in my life.
Wife: So, why you have not started things early in your life?
Suresh: Just because of lack of financial knowledge. To date, I was saving my money conventionally & we were living our life above our means. I was spending every penny that I earned. But did only conventional SIP in the name of Investments.
Ramesh taught me about Step-Up SIP and Retirement Planning. We both discuss investments at least one hour every day. Ramesh changed my views about How Money Works.
He taught me about a beautiful concept that applies to both Step-up SIP and Retirement Planning. That is the compounding concept. There is magic in this concept which is why Ramesh called it Magic of Compounding. And I also agree with Ramesh because there is the magic behind this concept.
If Ramesh is not taught me about these concepts, maybe I would have lost my millions. There is a truth that I have already lost millions as I was late compare with Ramesh.
Wife: You have lost millions! How? What is the magic of compounding? Can you explain?
Suresh: Yes, I will. It is my pleasure that, as a woman, you are showing interest in investments. Generally, women do not take any investment interest. I appreciate you; you show your interest to know the magic of compounding. (Read Investment for Women).
Let me tell you an imaginary story of Ramesh and Myself. I will explain to you with numbers that are imaginary but impacts a lot.
How Suresh Lost Millions?
Consider Ramesh and Suresh both having the same age of 25 years old. Ramesh has started invested of ₹5000/- per month inequities (Stocks and Mutual Funds) with an expected rate of return of 12% per annum. He advised Suresh to follow the same approach, but he ignored it.
When both turned 40 years old, Ramesh had built a corpus of ₹11,61,695/- on his portfolio. Then Suresh realized his mistake and decided to start investing from that year with double the amount invested by Ramesh i.e., ₹10,000/- per month, to catch up with Ramesh.
Both started earning an equal return of 12% on their investments.
After 15 years, when both turned 55years old, check their corpus.
Ramesh had made a corpus of ₹1.76crore whereas, Suresh had made just ₹50lacs in his portfolio.
Now, look at their actual investments. Ramesh invested ₹5000/- per month for 30 years. His total investment was ₹5000x12x30 = ₹18,00,000/- (Eighteen Lacs).
On the other hand, Suresh invested ₹10,000/- per month for 15 years. His total investment was ₹10000x12x15 = ₹18,00,000/- (Eighteen Lacs) as well.
Just because Suresh realized his mistake after 15 years, he already lost millions, which he understands when he became 55 years old. He almost lost ₹1,26,03,809/- crores (i.e., 1,76,49,569/- minus 50,45,760/-).
That is the real power of compounding. Ramesh did nothing special, he just starts early and following investing discipline.
Wife: Just because Ramesh starts 15 years early than Suresh, his money started to compound. Now, to equal Ramesh; Suresh must work more years to make the same corpus as that of Ramesh.
Suresh: Yes, exactly. You got the point. That is the magic of compounding. Ramesh taught me this concept earlier, but I ignored it. He explained to me the future value of money. Click here to read the power of compounding.
Albert Einstein once said, “Compound Interest is the 8th wonder in the world. He who understands it earns it. He who does not pays it”.
The early you start, the more benefits you can get. Even less investment every month can make a huge difference. Also, just like Ramesh, compounding does not take too much money to save a decent amount what is required is the discipline of regular investing.