Investors put most of their money into various investment schemes in order to gain high stock trading returns. Returns are of both types: simple interest and compound interest.
However, investors prefer to go for compounded returns. This is because, with the compounded returns, investors can reinvest their money back into the same investment schemes in order to generate maximum results.
For instance, you have invested money of Rs 1 lakh into an investment scheme where you receive positive stock market trading returns annually. Hence, when you receive your interest, you are left with two options: either you may utilize this money for daily usage or you may reinvest the interest money in the same investment scheme.
By following the second option, you will receive more interest against your investments. This term is known as compounding returns.
Some of the investment schemes that offer great compounding rates of return are mutual funds, ETFs, certificates of deposits, gold ETFs, zero-coupon bonds etc.
Understanding the Value of Compounding Returns
Compounded return can be both, positive and negative and can be expressed in terms of percentage. The percentage of return rate is the culmination of profit or losses against the original amount of investment for a certain period.
One of the important reasons to calculate compounding returns is that you can know the accurate rate of return for an investment done. Whereas calculating the average rate of return will not assist you in knowing the performance of your investment capital.
How Do Products Offer Compounded Return?
Interest Payments:
In interest payments, investment has a fixed rate of return which is calculated on the basis of underlying principal value and hence all the gains are added to these underlying values in order to achieve more compounded annual returns.
Asset Holdings:
Here, the investment is based on the asset’s collection and an investor expects a return from a stock’s portfolio as the income is generated by these asset’s holdings.
Compounding in Terms of Investment
Compounding is widely used in terms of financial investments because many investors use this process to multiply their returns in a long run.
If you are playing to invest your money in various investment schemes, compound investment is the best option as it gives you the fastest growth as compared to other options like simple interest.
Multiplication of returns heavily depends on two factors: a period of holding and the return rate.
For instance, you have invested your money in ordinary income generation schemes. As the income is generated, the investment holder will send you the interest.
In the case of a compound return investment, the investment holder receives the income and adds it with your principal amount to generate more income.
How can you earn compounding returns?
There are a few methods to earn compounding returns, which are:
Compounding return from bank accounts:
This is one of the reliable methods of compounding returns as with the help of it, investors can easily achieve their returns from their bank accounts. Instead of a current account, a bank’s savings account comes with a high return on earnings.
Compounding Returns From Certificate of Deposits
Investors earn their compounding returns through a certificate of deposit; which is financial security released by the government.
Compounding Returns Through Bonds
There are several bonds issued by the government that provides you with a facility to get fixed returns after the maturity of bonds.
Compounding Returns Through Mutual Funds
Compounding holds power when it comes to mutual funds returns. Investors can easily get the benefits from the power of compounding.
Investors who put their money into the mutual funds, earn dividends on the total funds they invest in. Here, the dividend is an important factor as it gives you an option to reinvest the money into the mutual fund.
As a result, you can buy a huge number of mutual fund units which in turn increase your wealth in the long run.
By reinvesting in the mutual fund units, you not only invest in the original units but also in the newly invested units.
Takeaway
Compounding returns can be successfully achieved only if investors sees a potential to earn compound interest in an financial instrument whose profits can be reinvested. Before receiving any type of compounding interest, you need to figure out the financial instruments which gives high profits in a fixed period time. A beginner who wants to earn compound interest, opening a demat account is the first step.
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