The power of compounding, which is derived from compound interest, is a unique tool that can transform small systematic investment planning (SIP) investment amounts into a significant corpus. Essentially, the compounding adds interest on interest.
In the case of a Growth Mutual Fund, the yields from the underlying scheme are reinvested. Interest is generally compounded on a monthly, quarterly, or half-yearly basis, depending on the Mutual Fund scheme. For example, the power of compounding in SIPs, if an investor opts for a monthly SIP scheme, the returns will be compounded monthly, generating higher returns in the long run as compared to lump sum investments.
The additional gains from compounding may seem modest at first, but over time they can snowball, multiplying the principal and the accumulated interest. When the amount an investor has invested in a mutual fund scheme earns interest, this interest starts accruing interest of its own. This is called the power of compounding.
Time remains a crucial component to harness the power of compounding, that is, the more time an individual gives it, the more powerful compound growth’s effect can be.
Having said that, compounding needs time for the benefits to manifest, however, investors of any age can gain from its power. The situation of every investor is different, depending on the financial goals, investment time horizon, circumstances and risk-bearing capacity.
In the end, it is just math at work. An investor can start early and follow some basic investing principles to build wealth over time.
Rajiv is an independent editorial consultant for the last decade. Prior to this, he worked as a full-time journalist associated with various prominent print media houses. In his spare time, he loves to paint on canvas.