Patience is the key to all success.
You will see how true it is in this episode.
When it comes to investment
the first topic that we have to learn is
Understanding the power of compounding
i.e to appreciate the power of compounding
If we understand its power,
we can build many retirement strategies over it.
We have learnt about Compound interest in school
We have also heard about it 1000 times
But have we understood its full power and potential?
Only few among us have.
Today in this episode, we will see
its full power
Lets begin with the definition of Compound Interest.
Lets say that we have Rs. 10,000 in our hand
and we are investing in an asset
that gives a return of 10% per year.
Let's see how it grows
over time.
First year it grows to Rs. 11,000
Fifth year it grows to Rs. 16,000
10th year it grows to Rs. 26,000
By 20th year, it grows to Rs. 67,000
That is 6 times the original investment
In 30 years, it grows to Rs. 1,74,000
That is - it would have grown 16 times
by the end of 30th year
All this assuming a return of 10%
But Indian Stock Market's average return
is 18%
If I have invested my Rs. 10,000
in Indian Stock Market Index Fund,
then let's see how it would
have grown
In 10 years, it would have become Rs. 50,000
In 20 years, it would have grown to 2.75 Lakhs
In 30 years, it would have grown to 14 Lakhs
All from Rs. 10,000
without any extra investment
We can notice few other interesting things in this chart
Out of that 14 Lakhs, it has taken
14 years to earn the first lakh
But the last lakh took
only 6 months
Also, the first year growth is just Rs. 1800
But the 30th year's growth is 2 Lakhs 15,000 Rs.
The original invested principal is same 10,000
But you see how big of a difference is there
between the first year's growth and 30th year's growth
This is called "Snowball Effect"
This is why saving for retirement when you are young
rather than after 35 years old makes a huge
difference in retirement savings
We can control the power of compounding
through 3 different parameters
1. Invested Money - how much we are investing
2. Invested Time -
How many years we are staying invested.
3. Growth Rate - At which rate the
invested money is growing
Lets take a look at this table.
Depending on how much we have invested,
How long we have invested, and what kind of
asset we have invested, the growth of that investment changes.
For Rs 10,000, that is invested for 30 yrs
check out the difference in return amount for
8% and 10% return
Just 2% difference in return rate
But for 30 years, one is giving 1 Lakh return and
another is giving 1.75 Lakh return
15% is giving 6.6 Lakhs
that is - 6 times more than the
return from 8%
For 18%, which is the average return of Indian Stock Market
is giving 14 Lakhs
that is - the difference between
8% return and 18% return is
14 folds
This is important to understand
because we invest on different asset types based on
this. We will cover that in future videos.
There is one another important thing in this table.
Check out the 40 years and 18% return
Rs. 75 Lakhs
If we have invested Rs. 10,000 in Indian Stock
Market Index Fund in 1980,
We would have
Rs. 75 Lakhs by now.
Now we understand the power of compounding.
Lets see how we can use this for our
retirement strategy through an example
Lets use a 25 yr old who has just joined a job
for our example.
He is earning Rs. 20,000 / month
Saving 50% of his earnings by living a modest life
i.e saving Rs. 10,000 / month
He is investing the saved money in Indian Stock Market's Index Fund
lets say he is continuing his monthly investment till he
is 30, then he will have 8.5 Lakhs by his 30
Lets say he gets
married and had kids
Even if he is not able to contribute to his
investment going forward
his nest egg 8.5 Lakhs would continue to grow
When he is 45 yrs old
he will have Rs. 1 Crore
By 50, he will have Rs. 2.3 Crores
By this time he is ready
to retire comfortably.
If you see where this 2.3 Crores came from,
it is because he invested in his first 5 years
Instead of investing, if he has
spent that money on
a fancy motor bike or on an iphone
then the cost he has paid for those is
Rs. 2.3 crores
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