Whenever I do an article on returns and say, for example, that an investor may get 18 per cent from an investment, somebody will remark “this is too high”. Of course, a few will say 18 per cent is not possible, only 12 per cent is possible. Or something to that effect.
The fact is that none of us know what rate of return we will get over the next 30 years. Fairly obvious, I thought. We put a number because Excel, or whichever other software we use, cannot work with “I do not know” as an input. We assume that a Rs 5,000 per month Systematic Investment Plan (SIP) over 20 years at 12 per cent will mean there will be Rs 55 lakh in that fund.
That is all. It is just proof that compounding works. It does not mean that you will get 12 per cent or 18 per cent in that fund. You may get 12 per cent or 23 per cent return. It is just an assumption. In real life, you will be watching the investment on a day-to-day basis.
The important thing to learn is that you need to create funds that will remain untouched over real long periods of time.In real life, you can, and perhaps will, measure the returns on a regular basis--so you do not need to do a guessing game today, at the beginning of your long journey.
When a client asks an Advisor, “What return will I get?”, the best thing to do is to ask the client to read this post. If you are an adviser, save this post. If you are an investor, save this post and read it again and again. Whenever you feel like asking this question--“kitnamilega?”--India’s favourite question!
None of us know how much return we will get over 4 weeks, 4 years or 4 decades. We just have no idea.
However, you start a journey assuming that you need Rs 55 lakhs in 20 years. So, you have to do a Rs 5,000 SIP for 20 years. If this return falls over 2-3 years, the only thing you can do is to increase the SIP amount you are investing. If your adviser talks as though he controls everything, remember that he controls nothing. As an investor, your eye should firmly remain on the target you have set yourself, that is all.
So, if you think that the ‘r’ (return) that you are getting is not enough, try increasing the amount you are investing in the SIP by a small measure.
Nobody knows what will be the “return” or “r” in the compounding formula. Not, Donald Trump, Narendra Modi, Nirmala Sitharaman… Why, even Warren Buffett does not know how much return you will get over the next few weeks, months, years or decades. We are, all of us, just guessing.
Every year we get a number on the yield that an investment has provided, or return that an investor has achieved. Say we get 8 per cent return in the first year instead of 12 per cent, we may not do anything. However, if we get 8 per cent return for the first five years, we will take corrective action. We may increase the SIP amount to Rs 6,000, or whatever we can.
Or, in a worst case scenario, we may push behind the goal back by a year or two.For the rest, we assume some numbers so that we can use Excel. And, as investors, we monitor them on a continuous basis so that we can take corrective action if needed to meet our goal.
PV Subramanyam writes at www.subramoney.com and has authored the best seller ‘Retire Rich - Invest C 40 a day’