The more time you give your investments, the more you can accelerate the income potential of your original income.
When it comes to investing for your future, there are a lot of publicly traded stocks and investment vehicles to choose from. Although there is no specified formula or handbook that investors are expected to follow, there is one general simple rule: Invest for the long-term.
If you need funds for the short term, investing in stocks is not encouraged as the markets tend to be volatile. That is why, in India, gold and real estate are preferred investment options. However, if you’re looking to harvest your returns five or more years into the future, an investment in equities or an equity fund can be ideal.
Power of compounding
Your age and financial responsibilities play an important part in your investment decisions. Since youngsters have fewer financial responsibilities such as retired parents, a spouse, children, or car or home loans to pay off, they are encouraged to start their investments early. A young individual also has a high risk-bearing capacity, being able to withstand the swings of the market. Moreover, buying stocks or investing in equity for the long term allows you to take advantage of compounding.
Compounding requires two factors to work: The reinvestment of earnings, and time. The more time you give your investments, the more you can accelerate the income potential of your original income.
Essentially, compounding is the process of earning income on your principal investment plus the income earned – the income also starts to earn as the same is reinvested
For example, an investment of `10,000 at 10% will result in `11,000 in one year. If you decide to reinvest the gain of `1,000 and receive the same rate of return, your capital will grow to `12,100 by the end of the second year. By contrast, not reinvesting the gains would have resulted in capital of just `12,000. This difference seems small over short time periods, but if one were to sustain the same 10% annual rate of return over a decade, the difference would show`25,937 for the reinvested corpus, versus just `20,000 for the portfolio with gains pulled out of the market.
The data doesn’t lie
Although there have been ups and downs, if you align your portfolio for the long term, you’re more likely to make money, especially if you focus on high-quality businesses. After the 2008 crisis, many investors terminated their SIPs. This was a bad choice because the whole point of an SIP is to keep investing, irrespective of market conditions. Investments made when the markets are down big tend to make the greatest profits. As Warren Buffett says, “Be greedy whenothers are fearful.”
Anyone can start a long-term investment; you don’t have to be an investment guru to invest in well-run businesses for the long term. An important thing to remember is that you will make mistakes. But a regular review of investments every six months can help to correct at least some of these mistakes. It is important to hold on to companies that have historically demonstrated strong growth and add to companies whose business models are still intact but have fallen on hard times.
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