One has surely heard of the power of compounding and the benefits it provides. The story of the king and his wise minister comes to mind when one speaks of compounding. The king greatly pleased with his ministers wit asks him for anything he wants. The minister asks for grains of wheat to fill up a chessboard. Please double the grains compared to the earlier square he says. One grain for the first square, two for the second, four for the third and so on. There is insufficient wheat in the whole of the kingdom to fill the chessboard and the minister gains a kingdom. Time for one to benefit from the power of compounding?
A recurring deposit is similar to a systematic investment plan of a mutual fund.A fixed installment is made every month and interest is paid by the bank on these amounts. Banks insist on a savings bank account to be opened with it as monthly installments will be routed through this account. A fixed sum of money is deducted every month from ones savings bank account or even a current account. At the end of the tenure of the recurring deposit the amount invested as well as the interest portion accrued is paid back to the investor.
Both public sector as well as the private sector banks offer interest on the recurring deposit of different tenures. The interest rates are in the range of 8-9% for both the private sector banks as well as the public sector for a tenure ranging from a year up to 5 years Banks usually compound interest quarterly.
Mr Dinesh opens a recurring deposit with a private sector bank for a period or tenure of 2 years. He invests INR 25000 per month regularly during this period. The interest rate offered is 8.5% for the two year tenure. What is the amount accrued after this period?
The formula for compounding is as follows :
P = Initial investment.
r = annual nominal interest rate
n = number of times the interest is compounded per year.( In case of quarterly compounding n=4)
t = number of years.
A = final amount.
I would like to end this article stating that one should add a recurring deposit to the portfolio of investments. This can add the power of compounding to the invested amount. Never underestimate the power of small sums on money. The mighty ocean is a collection of little drops of water.
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