A customer of ours recently sent us this question
"I've checked a few funds returning above 40% and near to 50% for one year. If I invest a lumpsum Rs 1,00,000/- into such funds generating 40-50%, does it mean that the accumulated amount after 12 months span would be around Rs.140000? 100000 + 40000 (40% returns)"
This is a very common return calculation mistake people make when it comes to evaluating investing in a particular mutual fund.
The performance of a fund varies from year to year based on the performance of the overall market and specifically the investment choices made by the fund managers.
- You should not be swayed by the short-term (1-2 year) performance for selection. At Scripbox we look at a minimum 5 year track record of the fund during our short listing process. Equity mutual funds are best suited for your goals with an investment horizon of more than 5 years.
- Equity mutual funds fluctuate a lot and you cannot say that your 1 lakh will grow to Rs 1.4 lakhs in one year just because there was 40% increase last year. Growth could be 20%, 10% zero or even negative in 1 year but it historically averages out over time at a rate much higher than inflation. This is what we mean by volatility.
Over the long term (5-7 years), equity funds have given a 14-16% return and that is the rate of return you should use while planning.
If you have a shorter investment horizon (3 years), we recommend looking at debt funds which are an excellent tax-efficient alternative to bank FDs.