International Journal of Science and Research (IJSR)

ISSN: 2319-7064
SJIF (2020): 7.803

Power of Compounding in Mutual Funds

Ishika Mittal

Abstract: Compounding can make things appear to be larger than they really are. This effect can arise when returns resulting from an
event are compounded over a long holding-period. With compound interest, the interest that you earn increases with the increase in your
investment (monthly/quarterly/semi-annual/or annual investment plus the interest that you are earning on this investment). This
calculator will help you calculate the worth of your investment after a set number of monthly investments or even a single, initial
investment, based on the interest accrued on the invested amount. This paper aims to know the Power of Compounding in Mutual
Funds.

Keywords: Compounding, effect, interest, calculator, investment.

1. Introduction calculator to see how the magic unfolds with time.

Compounding is a technique that makes money work harder.
“Reinvestment of earnings at the same rate of return to grow An average investor depends on this tool to plan for their
the principal amount every year is compounding. financial goals. Most long term financial goals become
Compounding is a compelling concept. It is because the easier and achievable because of the power of
interest of your invested money is also earning interest. This compounding.”
is known as compound interest. The value of the investment
keeps growing at a geometric rate (always increasing) rather “For example, INR 100 is invested, and the compound
than at an arithmetic rate (straight-line). Reinvestment of interest rate is 6% p.a. The principal amount is INR 100, and
earnings at the same compound interest rate of return would the interest earned at the end of 1 year is INR 6 (6% of INR
help in continually growing the principal amount year-on- 100). Instead of withdrawing the interest amount, it is
year.”” reinvested, then the principal amount for the second year
becomes INR 106 (INR 100 + INR 6). The interest earned
“When the principal includes the accumulated interest of the for the second year is INR 6.36, this is 0.36 more than the
previous periods and interest is calculated on this then they previous year. Even though the amounts look very small, it
say its compound interest. This powerful tool (compound makes a huge difference in the long term. The magic of
interest) can be used by investors to plan their financial compounding works only over long periods of time.”
goals. In the long term, this technique will benefit the
investor. Longer, the investment horizon higher are the Power of Compounding Calculator
returns. The right advice is to start saving regularly and “Compounding is when the returns earned from an
invest wisely. An early start would give the investor a higher investment are reinvested to generate additional earnings
compounding effect, and building wealth becomes easy. The over time. In short, compounding is Interest on Interest,
possibilities of the compound interest are endless. With time, hence magnifying the returns over time. The power of
compound interest only further enhances the earnings, and compounding uses this concept to estimate the value of an
the investment grows manifold.” investment.”

Compound interest can be calculated by: “Power of Compounding calculator is a tool that will help in
calculating the worth of an investment. It calculates the
 Daily compounding value of an investment after ‘n’ number of years at a
 Monthly compounding specified interest rate. The power of compounding calculator
 Quarterly compounding uses compound interest formula as a basis. The entire
concept of compound interest revolves around making high
 Half-yearly compounding
returns by adding the interest earned to the principal amount
 Yearly compounding
at the compound interest rate. The compound interest
formula used in the power of compounding calculator is:”
“Compounding is done on loans, deposits and investments.
Frequency of compounding is basically the number of times
“P [((1 + i)^n) – 1],
the interest is calculated in a year. The higher the frequency
where,
of compounding, the greater the amount of compound
P = principal
interest. The frequency of compounding depends on the
i = annual interest
instrument. A credit card loan is usually compounded
n = number of periods.”
monthly and a savings bank account is compounded daily.
The frequency of compounding varies based on the scheme
“The calculator helps in understanding how much an
offered by the bank or financial institutions.”
individual will earn if they invest a fixed amount for a fixed
period at a given annual rate of interest. By using this
“One doesn’t have to be a financial analyst to understand the
calculator, one can calculate the potential returns from an
concept of compounding. To make the maximum advantage
investment. They can find out how much their savings will
of the compound interest, invest a small amount regularly
grow if invested.”
for long periods of time. Use the compound interest
Volume 10 Issue 11, November 2021
www.ijsr.net
Licensed Under Creative Commons Attribution CC BY
Paper ID: SR211031183016 DOI: 10.21275/SR211031183016 469
 International Journal of Science and Research (IJSR)
ISSN: 2319-7064
SJIF (2020): 7.803
“The calculator has the following components:” Compare multiple scenarios
“An investor can use the calculator to run multiple scenarios
 Principal Amount: It is the amount one intends to invest. by tweaking the interest rate, investment amount, and the
 Investment Period: It is the number of years one wants to time of investment. He/she can compare the results from all
invest. the scenarios and find out the best plan to invest.”
 Rate of Return: It is the interest one expects to earn from
the investment. Use the Power of Compounding Calculator
 Benefits of using a Power of Compounding Calculator “The power of compounding calculator is effortless to use. It
has a principal amount, investment period, and rate of return
“The power of compounding calculator is a handy tool. It fields. These fields have to be entered by the investor to
has the following benefits:” check how much they will earn. The compound interest
calculator gives the total investment, wealth gained, and
Easy to use maturity value both in number and in graphical format. In
“The calculator is very easy to use. All one has to do is enter short, the power of compounding calculator shows the
the three values. The investment amount, investment period maturity value of a lump sum investment at the end of a
(in years), and expected return (in %). The calculator returns specified period at a specific rate of return.”
the values of total investment, wealth gained, and maturity
value along with a graph.” “Here’s an example of an investment of INR 1,00,000 for
ten years with an expected return rate of 12%. The inputs to
Makes calculation easy and time-saving be entered are:”
“Calculating compound interest on an investment and
determining the final value manually is a time taking  Principal Amount: In the principal amount field, enter
process. The power of compounding calculator gives back INR 100,000.
accurate results in a matter of seconds. Hence saves time for  Investment Period: In the investment period field, enter
the investor.” 10 years.
 Rate of Return: In the rate of return field, enter 12%.
Future planning  The calculator then returns the following values along
“The power of compounding calculator helps plan the future with a graphical representation:
financially. Investors can use the calculator to find out how  Total Investment: INR 100,000
much an investment will reap before investing in it. This  Wealth Gained: INR 210,585
way, they can compare all the plans and pick the most  Maturity Value: INR 310,585
profitable option.”
“The investor can also see which funds will help him/her
Free to use earn the return they are expecting in a specific period by
“The calculator is online and can be used multiple times for clicking Get Started. It will show various investment
free. Helping investors to plan their future cost-effectively.” portfolio suggestions based on investor requirements.”

Graph 1: Compound Interest Calculator

Volume 10 Issue 11, November 2021

www.ijsr.net
Licensed Under Creative Commons Attribution CC BY
Paper ID: SR211031183016 DOI: 10.21275/SR211031183016 470
 International Journal of Science and Research (IJSR)
ISSN: 2319-7064
SJIF (2020): 7.803
Compound Interest Power of Compounding works in Investments
The compound interest offers interest on the previously When an investor invests a certain amount, the interest
earned interest, unlike simple interest, which earns interest earned on this amount is added to the principal. Then new
only on the principal amount. Simply put, compound interest interest is earned on the new principal amount. In simple
means Interest on Interest. The entire concept of compound terms, compound interest makes interest on interest.”
interest revolves around making high returns by adding the
interest earned to the principal amount at the compound Considering the above example, where Ishika Mittal invests
interest rate.” a lump sum of INR 5,00,000 for a period of 10 years at a
10% rate of return. Below is the tabulated data of interest
As an investor, never withdraw these earnings. It is crucial earned during the investment tenure of Ms. Ishika. In
to have the earning generated to be reinvested to earn higher Scenario 1, the interest earned is reinvested while in
returns. The reinvestment is done at the same compound Scenario 2, interest is withdrawn every year.”
interest rate of return. Withdrawing the profits wouldn’t help
in investment growth.” Scenario 1 Scenario 2
Principal Principal
Year Year Interest
The compound interest formula used in the compound Amount Amount
interest calculator is:” 1 Rs 500,000 1 Rs 500,000 Rs 50,000
A = P(1+r/n)^(nt) 2 Rs 550,000 2 Rs 500,000 Rs 50,000
A = the future value of the investment 3 Rs 605,000 3 Rs 500,000 Rs 50,000
4 Rs 665,500 4 Rs 500,000 Rs 50,000
P = the principal investment amount
5 Rs 732,050 5 Rs 500,000 Rs 50,000
r = the compound interest rate
6 Rs 805,255 6 Rs 500,000 Rs 50,000
n = the number of times that interest is compounded per 7 Rs 885,781 7 Rs 500,000 Rs 50,000
period 8 Rs 974,359 8 Rs 500,000 Rs 50,000
t = the number of periods the money is invested for 9 Rs 1,071,794 9 Rs 500,000 Rs 50,000
10 Rs 1,178,974 10 Rs 500,000 Rs 50,000
For example, Ishika Mittal invests INR 5,00,000 for ten
years at a rate of 10% p.a. At the end of 10 years, she would “In Scenario 1, the total interest earned is INR 7,96,871, and
have INR 12,96,871 when the investment is compounded. In the total value of the investment at the end of 10 years is
case of a simple interest return, she would earn only INR INR 1,296,871. In Scenario 2, the total interest earned is
10,00,000 at the end of 10 years.” INR 5,00,000, and the total value of the investment at the
end of 10 years is INR 1,000,000.”
The same can be calculated using online compound interest
calculators, which make the calculation seem effortless. “Here the maturity amount in scenario 1 is higher because
Compound Interest is the foundational concept for both the interest is being reinvested, and every year interest is
building wealth and quick repayment of debt. The calculated on the new principal amount. In other words
compound interest calculator will help in getting an interest is calculated using compound interest. This little
estimation of how much an investment will yield. The scope reinvestment of the interest is helping Ishika to earn nearly
of compound interest is enormous. Using the compound INR 2.96 lakhs more when compared to taking out the
interest calculator, observe the returns for an investment interest earned every year. This example shows the power of
made at a 6% compound interest rate. The value of the compound interest.”
investment doubles in 12 years, and the same will grow
fourfold in 24 years. Initially, the returns might seem low, “The longer the investment duration, the higher are the
but with time, the returns are enormous.” returns. The sooner one starts investing, the more money
starts working overtime, and the sooner it’ll help in
Calculate the compound interest achieving financial freedom.”
The formula used in the compound interest calculator is A =
P(1+r/n)(nt)” “Therefore, as a wise investor, it is essential to leverage the
A = the future value of the investment power of compound interest and start investing early and
P = the principal investment amount regularly. Being patient during the investment duration is as
r = the compound interest rate essential as investing regularly. The power of compounding
n = the number of times that interest is compounded per lies in the fact that it fundamentally increases the principal
period amount every year. This increase in principal amount is
t = the number of periods the money is invested for attributed to the interest amount being reinvested.
Compound interest has the potential to earn higher returns
A simple example, INR 100 is invested, and the compound and has a definite edge over simple interest.”
interest rate is 6% p.a. The principal amount is INR 100, and
the interest earned at the end of 1 year is INR 6 (6% of INR Key Rules of Investment that enable Power of
100). Instead of withdrawing the interest amount, it is Compounding
reinvested, then the principal amount for the second year
becomes INR 106 (INR 100 + INR 6). The interest earned “Start Young: Starting investments early will help in
for the second year is INR 6.36, this is 0.36 more than the making the most of the power of compounding. Early
previous year.” investing will help in building wealth to achieve long term
goals. It enables funds to grow over time.”
Volume 10 Issue 11, November 2021
www.ijsr.net
Licensed Under Creative Commons Attribution CC BY
Paper ID: SR211031183016 DOI: 10.21275/SR211031183016 471
 International Journal of Science and Research (IJSR)
ISSN: 2319-7064
SJIF (2020): 7.803
“Make disciplined investments: Financial discipline is “Compounding Intervals: The frequency of compounding
essential. Define goals and work towards achieving them by and wealth accumulation are directly related. The higher the
investing regularly. Small investor or a big investor, it frequency of compounding, more the accumulation of
doesn’t matter, investing periodically and staying invested wealth. Let’s look at the growth of INR 10,000 at 10%
for long will help in reaping maximum benefits. ” compound interest compounded at different frequencies.”

“Be Patient: Investing for the long term is the key. Don’t be Time Annual Quarterly Monthly
in a hurry to earn a quick return. Long term investments reap 1 Rs 11,000.00 Rs 11,038.13 Rs 11,047.13
higher returns due to the power of compounding. Always 5 Rs 16,105.10 Rs 16,386.16 Rs 16,453.09
give a reasonable amount of time for investments to grow 10 Rs 25,937.42 Rs 26,850.64 Rs 27,070.41
significantly.”
It is very clear from the above example that the higher the
“Watch your spending: Saving is easier said than done. compounding interval, the higher is the wealth accumulated.
However, watchful spending will help in saving at least a Also, longer the investment tenure higher is the wealth
small amount. Investing doesn’t necessarily have to be only accumulated.”
in large sums. Start with small amounts, and as the income
increases, make sure to increase savings proportionately. It “Top-up Investments: Below is the same example of Ishika
will help in achieving financial goals comfortably.” investing INR 5,00,000 for ten years at a 10% rate of return.
She also tops up his investment every year by 10%. The
“Consider interest rates: While choosing any investment table shows how this top-up would help in compounding
return is very important. Similarly, a higher annual return.”
compound interest rate implies higher returns.”

Year Opening Balance Investment 10% Interest Closing Amount

1 Rs 0 Rs 500,000 Rs 50,000.0 Rs 550,000.0
2 Rs 550,000.0 Rs 600,000.0 Rs 60,000.0 Rs 660,000.0
3 Rs 660,000.0 Rs 720,000.0 Rs 72,000.0 Rs 792,000.0
4 Rs 792,000.0 Rs 864,000.0 Rs 86,400.0 Rs 950,400.0
5 Rs 950,400.0 Rs 1,036,800.0 Rs 103,680.0 Rs 1,140,480.0
6 Rs 1,140,480.0 Rs 1,244,160.0 Rs 124,416.0 Rs 1,368,576.0
7 Rs 1,368,576.0 Rs 1,492,992.0 Rs 149,299.2 Rs 1,642,291.2
8 Rs 1,642,291.2 Rs 1,791,590.4 Rs 179,159.0 Rs 1,970,749.4
9 Rs 1,970,749.4 Rs 2,149,908.5 Rs 214,990.8 Rs 2,364,899.3
10 Rs 2,364,899.3 Rs 2,579,890.2 Rs 257,989.0 Rs 2,837,879.2

 The total investment made by Ishika is INR 25.79 lakhs mutual funds at the age of 21, and Tanisha started investing
 Total interest earned is INR 12.97 lakhs INR 10,000 per month in equity mutual funds at the age of
 Overall Earnings at the end of 10 years is INR 38.77 35. Both of them kept investing until the age of 50. If both
lakhs of them earn an interest of 12% per annum, who would be
richer? Ishika of course.
Benefits from compound interest are highly effective by
topping up investments at regular intervals.” At the age of 50, Ishika’s investment value is INR 61.81
lakhs, whereas Tanisha’s investment value would’ve been
Therefore, to earn higher returns, always consider topping INR 49.96 lakhs. Ishika would still be richer if he and Vijay
up investments at least annually, and stay invested for longer invested quarterly or one-time.”
durations. This disciplined habit will not only help in regular
savings but is also highly rewarding by earning higher Let’s assume Ishika invests INR 2,000 every quarter from
returns. The advice for all investors is that start investing the age of 21 and keeps investing until he turns 50. And
early in life to enjoy maximum benefits by staying invested Tanisha invests INR 10,000 every quarter from the age of 35
for longer durations. Watchful spending and increasing and keeps investing until he turns 50. The maturity value for
investment corpus every year will also help in building Ishika and Tanisha will be INR 19.89 lakhs and INR 16.31
wealth faster.” lakhs, respectively, if their return is 12% per annum.”

Power of Compounding in Mutual Funds If Ishika made a lump sum investment at the age of 21 of
When an investment earns interest on interest, it is called INR 25,000 and Tanisha made a lump sum investment of
compounding, which best works in the long term. Staying INR 1,00,000 at the age of 35, both at a return of 12%. Their
invested for longer tenures will help investors earn higher. maturity value when they turn 50 will be INR 6.68 lakhs
Let’s take an example of two friends Ishika and Tanisha. (Ishika) and INR 5.47 lakhs (Tanisha).”
Ishika started investing INR 2,000 per month in equity

Volume 10 Issue 11, November 2021

www.ijsr.net
Licensed Under Creative Commons Attribution CC BY
Paper ID: SR211031183016 DOI: 10.21275/SR211031183016 472
 International Journal of Science and Research (IJSR)
ISSN: 2319-7064
SJIF (2020): 7.803
Ishika Tanisha
Frequency of Investment Tenure of Investment Investment Maturity Value Tenure of Investment Investment Maturity Value
Monthly 29 Years Rs 2000 Rs 61.81 Lakhs 15 Years Rs 10,000 Rs 49.96 Lakhs
Quarterly 29 Years Rs 2000 Rs 19.89 Lakhs 15 Years Rs 10,000 Rs 16.31 Lakhs
One Time 29 Years Rs 25,000 Rs 6.68 Lakhs 15 Years Rs 100,000 Rs 5.47 Lakhs

Even though Ishika’s investment was less than Tanisha, the

duration of his investment is longer and compounding best
works in long investment tenures. Hence, Ishika’s maturity
value is higher than that of Tanisha’s.”

The longer one stays invested, the more will be the money
they make. To take advantage of the benefit of
compounding, one has to remain invested for long tenures,
which can be done by investing early.”

2. Conclusion
Compounding helps investors earn interest on interest. The
following are the advantages of compound interest.
Compound interest makes investor’s money grow faster as it
helps earn interest on interest. Longer, the investment
duration more will be the potential to earn higher returns.
Make regular contributions to the existing investment to add
potential to compounding. The higher the number of
compounding periods, the higher will be the returns.
Compounding every month can earn more than
compounding annually.”

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Volume 10 Issue 11, November 2021

www.ijsr.net
Licensed Under Creative Commons Attribution CC BY
Paper ID: SR211031183016 DOI: 10.21275/SR211031183016 473