Power of Compounding via SIP: Rs 500 monthly SIP for 30 years, Rs 1,500 for 20 or Rs 5,000 for 10, which should work best?
Power of Compounding via SIP: A systematic investment plan (SIP) is a commonly preferred way of investing in mutual funds, as it enables investors to park their savings gradually towards their choicest equity-related schemes. In this article, let's look at four scenarios to learn about the role time plays when it comes to compounding.
Many investors prefer the Systematic Investment Plan (SIP) route over lump sum to invest in their favourite mutual fund schemes, as SIPs allow them to utilise their savings steadily. This enables an investor to not only stay committed to their long-term investment strategy but also to maximise the benefit of compounding.
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What is compounding?
For starters, compounding grows investments exponentially over time, helping in creating substantial wealth over the years. At times, compounding yields surprising results, especially over longer periods.
Let's compare 3 scenarios to understand how compounding works
Here, let's consider three different scenarios to understand how time matters in compounding: a Rs 500 monthly SIP for 30 years, a Rs 1,500 SIP for 20 years and a Rs 5,000 SIP for 10 years.
Guess the outcome
Can you guess the difference in the outcome in all four scenarios at an expected annualised return of 12 per cent?
SIP Return Estimates | Which one will you choose: Rs 500 monthly investment for 30 years, Rs 1,500 for 20 years or Rs 5,000 for 10 years?
Scenario 1: Rs 500 monthly SIP for 30 years
Scenario 2: Rs 1,500 monthly SIP for 20 years
Scenario 3: Rs 5,000 monthly SIP for 10 years
Scenario 1: Rs 500 monthly SIP for 30 years
Calculations show that at an annualised 12 per cent return, a monthly SIP of Rs 500 for 30 years (360 months) will lead to a corpus of approximately Rs 17.65 lakh.
Scenario 1: Rs 500 monthly SIP for 30 years
At a 12 per cent annualised return, a principal of Rs 1.8 lakh is estimated to give a return of almost Rs 15.85 lakh in 360 months.
Scenario 2: Rs 1,500 monthly SIP for 20 years
Similarly, at the same expected return, a monthly SIP of Rs 1,500 for 20 years (240 months) will accumulate wealth to the tune of Rs 14.99 lakh, as per calculations.
Scenario 2: Rs 1,500 monthly SIP for 20 years
During this period, a principal of Rs 3.6 lakh is estimated to yield a return of Rs 11.39 lakh, as per calculations.
Scenario 3: Rs 5,000 monthly SIP for 10 years
Similarly, at the same expected return, a monthly SIP of Rs 5,000 for 10 years (120 months) will accumulate wealth to the tune of Rs 11.62 lakh, as per calculations.
Scenario 3: Rs 5,000 monthly SIP for 10 years
During this period, a principal of Rs 6 lakh is estimated to give a return of Rs 5.62 lakh, calculations show.
SIP & Compounding
One can understand compounding in SIPs as 'return on return', wherein initial returns get added up to the principal to boost future returns, and so on.
How does compounding work?
Compounding helps in generating returns on both the original principal and the accumulated interest gradually over time, contributing to exponential growth over longer periods.