Simple rule of Investment

Often investing is a complex term for common man. In this article we are trying to understand investment in simple way. For most of the person,  understanding investment is not very easy but believe me it is very easy to understand.

In the investment field widely used term is interest rate. We can divide it in 2 types , one is simple interest rate and second is compound interest rate. For understanding it better we take an example:

Say you lend Rs 100 to your friend at an annual interest of 10 per cent. Your return will be Rs 10 for the first year. If you have given this amount for 1 year, you will get Rs 110 at the end of first year. If your friend does not return you after 1st year and you have given this loan in simple interest rate then after 2nd year you will get Rs 120 (Rs 10 interest in 1st year and Rs 10 interest for 2nd year and principal amount Rs 100).

But in the above example if you have given money to your friend in 10 per cent compound rate, then you will get total Rs 121 (Rs 10 interest in 1st year and Rs 11 interest for 2nd year and principal amount Rs 100).

So now we have clearly understood the difference between simple interest and compound interest. If compound interest calculated half yearly then we will get more value than earlier compound interest yearly calculated. It tells us how many times our interest will be calculated.

Take one example, an interest rate 10 % compounded half yearly means that interest will be calculated every 6 months. It implies an effective half yearly rate interest rate of 5%. The interest of Rs 10000 for the first six months come Rs 500. For the next 6 months we consider Rs 10500 and it will come Rs 525 means Rs 25 more than if the interest was compounded yearly.

Rule of 72

The another interesting thing is “Rule of 72”. This rule gives us a very reasonable idea of the time-frame over which your money doubles. You have to only just divide 72 by the rate of return or interest rate.

For example, if any scheme gives return of 12% compounded yearly then dividing 72 by 12 we get 6. It means your money would be double in approximate 6 years.

Losses recovery rule

There are another very important rule of recovering from losses. We often see in stock market when one stock goes down  x% from one definite price but it need gain more than just x% to get back to the initial value. For more understanding we take one example that when 20 lakh worth portfolio goes down from 15% become worth 17lakh. Now to get back 20 lakh value it have to grow more than 15%. (17.65% which is more than 15%).

The above mentioned rules seem very simple but these rules also equally very important in investment field.

Dear readers if you have any query regarding any financial products, feel free to ask.

Warm Regards,

Arvind Trivedi

Certified Financial Planner