This Is How Leveraging The Power Of Compounding In Mutual Funds Can Turn Your INR 15K Investment Into INR 1 Crore

Mutual funds market has caught the attention of many money holders and investors in recent times. One can invest a lump sum amount for a long period of time or can invest in SIPs (Systematic Investment Plan). SIP investments are more feasible than lump sum investments. If an investor has good knowledge of the money market mechanism, he/she can earn a good fortune. However, one must quantify future returns through a SIP calculator before investing their money.

Let us understand the significance of compounding, the concept that we learned in school.

What Is Compounding?

Compounding, commonly known as compound interest,  is a simple concept that works as a multiplier effect. It increases the value of the investment at an increasing rate. This concept is beneficial for a long-term investment goal. The concept of compounding is based on reinvestment of initial capital along with the interest earned on it. Basically, an investor must be willing to invest a sum of money for a long period of time to avail the added benefits that compounding in mutual funds offers. For reaping maximum benefits of compounding, one should opt for SIP investments in mutual funds. The use of SIP calculator can help an investor plan his/her investment. Benefits of compounding are fully maximized in a long-term investment strategy.

How does it work?

Compounding works in a very simple and easy way. The principal amount is initially invested under the SIP scheme of mutual funds. The interest earned at the end of the year is reinvested. In this way, compounding in mutual funds helps an investor to make money out of their own money. One may use a free SIP calculator to make an estimation of future returns on their investment. An investor must be patient enough to understand that compounding is only beneficial when the earnings are not withdrawn.

Let us consider an example to understand how compounding works :

Mr. A invests INR 15,000 every month in a SIP mutual fund. The interest that he will earn on the investment at the rate of 14% (an arbitrary assumption) per annum will amount to INR 25,200. So, the total investment Mr. A makes in a year is INR 1,80,000 and the interest that he earns is INR 25,200. Now, if he opts for compounding in mutual funds, he will reinvest the interest amount in the next year. This would allow him to earn more money through his earned income. This is how compounding helps to increase the returns from investment at an increasing rate. These calculations can be tricky, and thus, the investors are highly recommended to use a SIP calculator before making any investment.

Why choose compounding?

Every investor has one major goal, that is, increment and growth of his/her wealth. The investors aim at increasing their returns as much as possible. However, not everyone has sufficient amount of fund that is required to earn greater returns on investments. Thus, compounding helps one to pool money and make money out of the investor’s earnings. Compounding in mutual funds does the work for the investors. It not only allows an investor to earn interest on the amount that is initially invested but also on the interest that is added to it every year. A SIP calculator may be referred for calculating the returns on investment

Impact Of Compounding

A SIP calculator would help one to understand the added benefits of compounding in a precise manner. The mutual funds market offers diversified investment options to investors. Several other factors are also there which must be understood by the investor. The NAV (Net Asset Value) of the funds may vary from time to time. There are taxes and other charges which may be levied on the investor.

However, these factors do not affect any investor as compounding is a powerful concept that balances the overall return which is usually at an increasing rate.

If we take the previous example of Mr. A, the annual investment made by him is INR 1,80,000 at 14% interest per annum. The following Table shows how compounding affects his mutual fund investment.

No. of Year	Funds/year	Amount carried forward from Previous Year	Total Amount	Rate of Interest	Total Amount at the end of year	Total Earning at the end of year
1	1,80,000	0	1,80,000	14%	2,05,200	25,200
2	1,80,000	25,200	2,05,200	14%	2,33,928	28,728
3	1,80,000	28,728	2,08,728	14%	2,37,950	29,222

This is how compounding adds returns to the total earnings of the investor. Although the response is mostly favorable, one must be brave enough to take risks. Part of the risk can be mitigated by forecasting returns & proper financial planning. Estimation can be accomplished using a SIP calculator Compounding in mutual funds adds to the benefits that one may reap if the chosen investment plan is appropriate.