Power of Compounding: The Fruit of Patience Explained
Compounding is an impressive tool in the hands of investors that can help create vast amounts of wealth over time. When beginning to invest your money, it is important to understand how compounding works and how it affects your investments. The process of compounding, albeit straightforward, is an arduous task to undertake. The desire to receive quick returns is strong enough to shrink the entire purpose of an investment.
Here, we will discuss how compounding works and explore investment opportunities such as a fixed deposit and ULIP plan and how the power of compounding affects the money vested into these financial instruments.
What is Compounding?
Compounding can be understood as the process of receiving a percentage based return on a principal amount, whereby the return is added to the original amount for computing the returns in the next interval. The power of compound interest is witnessed in the geometric sequence formed after each compounding interval, invariably increasing the absolute returns relative to the initial investment only limited by withdrawal or redemption of the investment.
Compounding is dependent on a couple of factors that are capable of amplifying or diminishing the eventual returns. It is essential to understand that compounding is an elaborate exercise and requires investors to shelter their investment from external as well as internal factors. If done right, compounding can help create massive amounts of wealth.
What affects the power of compounding
There are two major factors that affect the process of compounding:
Investors need to understand the significance of time when looking at compounded returns.
The amount of annualised returns received increases with time, as the principal amount keeps
increasing due to additions of returns each year.
To unlock the full potential of compounding, investors must refrain from disturbing investments
prematurely in order to let the income accumulate. A single compound interval can notably affect
the outcomes of the investment.
Fixed deposits, for instance, are a great investment option to secure high returns over long
periods of time, all with the security of low-risk investing and protection of corpus.
Rate of returns
The rate of returns must be given careful consideration before investing your money. A difference
in the interest rate can make a big difference between the returns that will accumulate at the end
of the investment period. Investors should assess and wisely approach options that tend to offer a
higher rate of return.
High rates are usually offered by instruments such as stocks, ULIP policy and mutual funds. A
lucrative investment opportunity to accumulate wealth through compounding is a ULIP scheme
that invests premium payments into a diverse set of funds in the market while also providing life
cover to the insured. One of the features of ULIP is that the investments are market-linked, which
have consistently outperformed most other asset classes, therefore, ensuring a higher rate of
returns and larger gains over time.
At Tata AIA Life Insurance Company, you can find a reliable ULIP plan as per your requirements. One such suitable plan is the Tata AIA Life Insurance Fortune Pro (UIN: 110L112V04) that offers flexible payment terms, varied investment choices and opportunities to switch between funds to ensure that your portfolio is adaptable and dynamic
How to leverage the power of compounding?
To reap the benefits of compounding, a proper strategy needs to be followed and here is what you need for understanding how to compound the returns on your investments.
1. Early beginning
Investors must start investing their money as early as they can. Compounding requires time, and to start late is to lose out on precious time that could have been utilised to supplement your investment. Younger individuals can begin preparing for financial freedom in their future by investing as soon as they start earning.
To reap all the benefits of compounding, investors must inculcate an investing discipline to ensure that investments do not go bad. Consistency and investing with defined objectives are the key to successful returns. Investments made in a uniform manner can help wealth grow at an increasing pace.
It is critical that investors remain patient during the period of the investment and refrain from diluting or withdrawing from the investment. A small difference in the quantum of investment can affect the potential returns on a substantial level. Being able to resist the impulse to capitalise on yields before the right time can go a long way into building lasting wealth.
4. Expense Management
Managing expenses is one of the biggest steps investors need to take in order to accrue returns consistently. Investors must have sufficient liquidity in order to leverage investment opportunities as and when they arrive and ensure that there are enough funds available for investing regularly.
Compounding is exceptionally powerful when it comes to generating wealth. The process is largely uncomplicated; however, needs discipline to be put into action. The urge to liquidate returns immediately can be counterproductive to wealth creation over the long term and can lead to enormous opportunity costs.
Compounding requires careful planning, consistency and, more importantly, patience in order to bear fruit. investors should avoid temptation to liquidate investments early. Exercise control, remain firm and protect your investments without interrupting your long term returns to witness the magnificence of compounding.