Why should one Invest?

investmentBefore we address the above question, let us understand what would happen if one choose not to invest. Let us assume you earn Rs.50,000/- per month and you spend Rs.30,000/-towards your cost of living which includes housing, food, transport, shopping, medical etc. The balance of Rs.20,000/- is your monthly surplus. For the sake of simplicity, let us just ignore the effect of personal income tax in this discussion.

To drive the point across, let us make few simple assumptions..

  1. The employer is kind enough to give you a 10% salary hike every year
  2. The cost of living is likely to go up by 8% year on year
  3. You are 30 years old and plan to retire at 50. This leaves you with 20 more years to earn
  4. You don’t intend to work after you retire
  5. Your expenses are fixed and don’t foresee any other expense
  6.  The balance cash of Rs.20,000/- per month is retained in the form of hard cash

Going by these assumptions, here is how the cash balance will look like in 20 years.

Years Yearly Income Yearly Expense Cash Retained
1 600,000 360,000 240,000
2 6,60,000 3,88,800 2,71,200
3 7,26,000 4,19,904 3,06,096
4 7,98,600 4,53,496 3,45,104
5 8,78,460 4,89,776 3,88,684
6 9,66,306 5,28,958 4,37,348
7 10,62,937 5,71,275 4,91,662
8 11,69,230 6,16,977 5,52,254
9 12,86,153 6,66,335 6,19,818
10 14,14,769 7,19,642 6,95,127
11 15,56,245 7,77,213 7,79,032
12 17,11,870 8,39,390 8,72,480
13 18,83,057 9,06,541 9,76,516
14 20,71,363 9,79,065 10,92,298
15 22,78,499 10,57,390 12,21,109
16 25,06,349 11,41,981 13,64,368
17 27,56,984 12,33,339 15,23,644
18 30,32,682 13,32,006 17,00,676
19 33,35,950 14,38,567 18,97,383
20 36,69,545 15,53,652 21,15,893
                                                                                                                                          Total Income 17,890,693

If one were to analyze these numbers, you would soon realize this is a scary situation to be in. Few things are quite startling from the above calculations:

  1. After 20 years of hard work you have accumulated Rs.1.7Crs.
  2. Since your expenses are fixed, your lifestyle has not changed over the years, you probably even suppressed your lifelong aspirations – better home, better car, vacations etc
  3. After you retire, assuming the expenses will continue to grow at 8%, Rs.1.7Crs is good enough to sail you through roughly for about 8 years of post retirement life. 8th year onwards you will be in a very tight spot with literally no savings left to back you up.

What would you do after you run out of all the money in 8 years time? How do you fund your life? Is there a way to ensure that you collect a larger sum at the end of 20 years?

Let’s consider another scenario where instead of keeping the cash idle, you choose to invest the cash in an investment option that grows at let’s say 12% per annum. For example – in the first year you retained Rs.240,000/- which when invested at 12% per annum for 20 years yields Rs.2,067,063/- at the end of 20th year.

Years Yearly Income Yearly Expense Cash Retained Retained Cash Invested @12%
1 600,000 360,000 240,000  20,67,063
2 6,60,000 3,88,800 2,71,200  20,85,519
3 7,26,000 4,19,904 3,06,096  21,01,668
4 7,98,600 4,53,496 3,45,104  21,15,621
5 8,78,460 4,89,776 3,88,684  21,27,487
6 9,66,306 5,28,958 4,37,348  21,37,368
7 10,62,937 5,71,275 4,91,662  21,45,363
8 11,69,230 6,16,977 5,52,254  21,51,566
9 12,86,153 6,66,335 6,19,818  21,56,069
10 14,14,769 7,19,642 6,95,127  21,58,959
11 15,56,245 7,77,213 7,79,032  21,60,318
12 17,11,870 8,39,390 8,72,480  21,60,228
13 18,83,057 9,06,541 9,76,516  21,58,765
14 20,71,363 9,79,065 10,92,298  21,56,003
15 22,78,499 10,57,390 12,21,109  21,52,012
16 25,06,349 11,41,981 13,64,368  21,46,859
17 27,56,984 12,33,339 15,23,644  21,40,611
18 30,32,682 13,32,006 17,00,676  21,33,328
19 33,35,950 14,38,567 18,97,383  21,25,069
20 36,69,545 15,53,652 21,15,893  21,15,893
                                                                                                                                    Total cash after 20 years  4,26,95,771

With the decision to invest the surplus cash, your cash balance has increased significantly. The cash balance has grown to Rs.4.26Crs from Rs.1.7Crs. This is a staggering 2.4x times the regular amount. This translates to you being in a much better situation to deal with your post retirement life.
Now, going back to the initial question of why invest? There are few compelling reasons for one to invest..

  1. Fight Inflation – By investing one can deal better with the inevitable – growing cost of living – generally referred to as Inflation
  2. Create Wealth – By investing one can aim to have a better corpus by the end of the defined time period. In the above example the time period was upto retirement but it can be anything – children’s education, marriage, house purchase, retirement holidays etc
  3. To meet life’s financial aspiration

Source : zerodha.com

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