he other day I was reading about Mr Kahn who died recently.
You wouldn't have heard of him. He was a lowly plant worker in the United States.
When he died at 89, he left more than $3 million in charity towards the local museum and university.
How did a labourer accumulate so much money?
The secret: he simply invested a small sum of money in the stock markets every month, diligently. Compounding did the rest.
There are three goals that nearly everyone saves for: retirement, children's education and buying a home.
Let's take a look at them.
1. Retirement
This is the phase of life when you stop earning but not cannot stop spending.
The idea in retirement planning is that you build up a nest egg on which you can live your retirement life comfortably. If you spend Rs 20,000 a month on living expenses, it translates to Rs 240,000 per annum.
If you were to earn 5% per annum as interest, you will need to save Rs 48 lakh (Rs 4.8 million) and you can live happily on the interest. Right? Wrong.
We have conveniently ignored inflation, which tends to reduce the purchasing power of your money. You money will buy less over the years because inflation will ensure that everything costs more.
The impact of this over time is huge. Your Rs 20,000 basket of goods will likely cost you Rs 136,000 by the time you are 58.
Which means you need to save Rs 3.28 crore (over Rs 300 million) as your nest egg.
2. Children's education
Now apply the same principle to your children's education. Inflation plays a role everywhere!
Everyone wants to put their children through college and a good professional education.
The degree which currently costs Rs 200,000 today will cost Rs 750,000 by the time your three-year old is 17. You need to save and plan for that, too.
3. Buying a home
Somewhere along the way, you should acquire a house to live in. Plan for the down payment of the house and start saving for it now.
Do not go in for such a large Equated Monthly Installment (the amount you pay every month to repay your home loan), that most of your salary is consumed and you living on scraps.
Leave a margin of comfort for expansion of expenses as your family grows.
Don't panic! Save!
The figures must have sent you into a tizzy. Don't let this deter you.
Let's say you are smart enough to start saving now. And you put aside a monthly savings of Rs 10,000 that earns you 8% per annum.
Over 33 years, it would have grown to Rs 215 lakh (more than Rs 20 million).
Remember what I said earlier? Mr Kahn let compounding work for him. You can do the same.
Now let's say your friend starts with the same amount and the same rate of interest five years later.
Twenty-eight years later (so that you both can compare notes at the same time), he is poorer than you by Rs 90 lakh (Rs 9 million).
If you are 25 years old and you begin to save, imagine how much you will have with you by the time you are 58. But if you wait till 30 to start, you will have so much less than had you begun earlier.
The cost of a five-year delay is tremendous.
Do not get deterred by large savings targets. Just start.
It's the principle, not the amount
As the famous author Robert Kiyosaki says, "It is not the amount you earn that is important. It is the amount you save."
While we often pursue higher pay packages to become more wealthy, we must also realise that the savings component of the package is as (if not more) important to the wealth creation.
Compounding works better with time on its side. When you are young, that is exactly what you have. Time.
So don't wait for more money. Start now!
The author is the Managing Director, Hexagon Capital Advisors Pvt Ltd.
Illustration: Dominic Xavier
