Benefits of Long Term Investing in Mutual Funds
We have all heard the famous Albert Einstein quote: "Compound interest is the eighth wonder of the world. He who understands it, earns it; he who doesn't, pays it". With long-term investing, compounding can give inflation-beating high returns. With long-term investing, equities can create wealth for you with the magic of compounding and fulfil all your financial goals. This article focuses on the benefits of long term investing.
Benefits of staying invested
When investing in financial products, specifically equity mutual funds, you should have a long-term investment horizon. In the short term, equity markets are volatile and can witness sharp corrections. But, in the long run, equity markets always overcome short-term corrections and recover the losses, and finally go on to make new highs
The above image shows the long-term journey of the BSE Sensex from 100 to 60,000. In the long journey of 41 years (1980 – 2021), the Sensex faced many short-term challenges. Some of these challenges include the Harshad Mehta scam, Mumbai blasts, Kargil war, Ketan Parekh scam, World Trade Center (WTC) terrorist attack, Dotcom bubble burst, Subprime crisis, demonetisation, Covid-19 pandemic, etc.
During these times, the Sensex underwent corrections ranging from small corrections of less than 5% to deep corrections of more than 50%. But, with time, the Sensex overcame every challenge, recovered its past losses, and went on to make new highs. Any investor who would have stayed invested for the long term during this entire period would have made excellent returns on their investments. The Sensex journey of 100 to 60,000, with several challenges in between, shows us the importance of long-term investing.
Power of compounding: Starting early is the key
If you want to benefit from the power of compounding, you should start investing from early on. If possible, you should start investing right from when you start earning. Let us understand how compounding works for early investors with the help of an example.
Amar (age 25 years), Akbar (35 years), and Anthony (45 years) start investing Rs. 10,000 a month (Rs. 1,20,000 annually) for their retirement. They are investing in an equity mutual fund and expecting a return of 12% CAGR. They will invest till the retirement age of 60 years. Let us see how much they will accumulate by retirement (age 60 years).
|Investor||Annual investment||Investment time horizon||Expected rate of return||Retirement corpus|
|Amar||Rs. 1,20,000||35 years||12% CAGR||Rs. 5,80,15,573|
|Akbar||Rs. 1,20,000||25 years||12% CAGR||Rs. 1,79,20,072|
|Anthony||Rs. 1,20,000||15 years||12% CAGR||Rs. 50,10,393|
As seen in the above table, Amar, Akbar, and Anthony invest the same amount every year (Rs. 1,20,000) and expect the same return (12% CAGR). However, the only difference is the investment time horizon.
As Amar starts early at the age of 25, he will accumulate Rs. 5.8 crores. Amar's retirement corpus is almost 12 times higher than Anthony's retirement corpus of Rs. 50 lakhs. Anthony started investing at the age of 45 years, which is 20 years later than Amar. Hence, if you want to create wealth for yourself, you should start early.
Starting early helps you generate inflating-beating high returns
In the earlier section, we saw how starting early can help you accumulate a large retirement corpus for yourself. Starting early also helps you take higher risks and invest in equity mutual funds, which can give you inflation-beating high returns. Let us look at the returns given by some large-cap mutual funds in the last five years.
|Scheme name||AUM (Rs. crores)||1-year||3-years||5-years|
|Axis Bluechip Fund||34,181||11.10%||18.56%||18.09%|
|Canara Robeco Bluechip Equity Fund||6,020||12.41%||21.32%||17.13%|
|Mirae Asset Large Cap Fund||31,296||11.62%||17.21%||15.09%|
|Invesco India Largecap Fund||505||18.68%||17.83%||14.90%|
|Edelweiss Large Cap Fund||315||11.19%||17.33%||14.90%|
Note: The returns are as of 25th Feb 2022. The returns are for direct plans with growth option. The one-year returns are absolute. The three and five-year returns are CAGR. The funds have been ranked based on five-year performance.
The above table shows how the best large-cap mutual funds have given five-year returns in the range of 15 to 18% CAGR. Thus, starting early and investing for the long term can help you get inflation-beating high returns.
Magic of compounding: Long investment time horizon and expected rate of return
In this article, we have explained how the magic of compounding can create wealth for you. Compounding works on two important parameters: long investment time horizon and expected rate of return. A long investment time horizon gives your money enough time to overcome short-term market corrections and benefit from compounding in the long run. Also, when you start early, you can take higher risks and invest in equity mutual funds. They have the potential to give inflation-beating high returns. Thus, investing in equity mutual funds for the long run can give you the benefit of compounding and generating wealth for you.