MasterMind is a joint initiative between Sundaram Mutual and Wealth Forum, in which we offer insights into how you can become a more effective advisor to your clients, by understanding them better, understanding how they think, understanding how they take financial decisions. This gateway into your clients' minds we believe will help you relate better to them, communicate more effectively with them and thus serve them better. Mastering your client's mind is your gateway to becoming a more successful advisor. Its not for nothing that they say, "Its all in the mind!"

In the first part of this 2 part article (Click Here), Ranjit Dani took us through how he uses cricketing analogies to help his clients understand important financial planning concepts. Here, Ranjit discusses two equally important aspects : (1) How he gets younger clients to truly appreciate the power of compounding and (2) How he dissuades clients from making ill-timed redemptions from their portfolios.

The power of compounding

I have an app installed on my mobile phone, which I always use when trying to explain to younger clients the power of compounding and the need to start early. As I talk to them, I keep tapping in the numbers in the app, and showcasing the results to help register the point I am trying to make. Here's what I usually tell them :

If you start a SIP of Rs.5,000 per month for a period of 30 years and assume a 15% return over this period, you will accumulate a corpus of Rs.3.5 crores in 30 years. Lets write this number down : Rs.3.5 crores in 30 years.

Now, if you start the same SIP 10 years later, and therefore have it going for 20 years, the accumulated corpus will be Rs. 76 lakhs. And, if you started the same SIP 10 more years later, and therefore had it going for 10 years, the accumulated corpus will work out to around Rs. 14 lakhs.

An SIP that started in year 1 and went on to year 30 grew to 3.5 crores, while the SIP that was started in year 11 and went on to year 30 grew to 76 lakhs and the SIP that was started in year 21 and went on to year 30 grew to 14 lakhs. The last SIP - the one that was started in year 21 and went on to year 30 was a 10 year SIP. Now, if I had done a 10 year SIP in years 1-10, and then discontinued the SIP thereafter and let the corpus remain invested until year 30, the corpus would still have grown to Rs. 2.6 crores. That's 90 lakhs less than what I would have got had I continued the SIP for 20 more years, but it is 2.46 crores more than the 14 lakhs that I would have got by starting the same 10 year SIP 20 years later. That's the impact on your future wealth by your decision to postpone starting your savings plan to a later stage.

The perils of redeeming early

I use the same app and the same numbers to help clients understand why redeeming equity investments unnecessarily is injurious to their financial health. The point that clients must grasp is that if a 10 year SIP of Rs. 5000 has grown at the end of 10 years to 14 lakhs, the real magic is in staying invested for the next 20 years - even if you don't continue the SIP - that's how 14 lakhs grows to 2.6 crores.

Many times, clients see profits in their equity investments and rush to sell them to realize the gains, whether they need the money or not. If you try to talk to them at that stage about the power of compounding and the merits of staying invested, more often than not, they won't relate to it. If it is a SIP in which they see these accumulated gains, the logic they will give you is that they are taking out the old investments, but are continuing the SIP. By continuing the SIP, they think that they are continuing with the disciplined savings habit, which you have been educating them about.

I try telling them a story of two poor villagers who collect wood everyday to use as firewood to cook their daily meals. They have to walk quite far to collect their daily firewood. One day, both decide to plant trees near their houses to solve this problem permanently. Both the villagers see their plants growing into young trees, even as they keep walking up and down collecting firewood from other trees that are far away. One of the villagers gets impatient and cuts down his young tree. For the next several days, he does not need to travel anywhere - he's got enough firewood at his doorstep. The other villager decides to let his tree grow and continues collecting firewood from afar. Within a few days, the impatient villager runs out of his stock of firewood. He plants another sapling and joins the patient villager in his daily trips for firewood. The next year, he does the same thing again - cuts down his young tree, plants another one and enjoys the firewood for a few days. Its only when he does this the third time that he realizes the folly of his actions - by the third such cycle, the patient villager's plant has grown into a large fully grown tree with numerous branches and twigs that he can use for firewood every day. The patient villager stops travelling for firewood for the rest of his life - his tree is now large enough to provide him all the firewood he would ever need. The impatient villager continues his daily trek, looking accusingly at his young plant and enviously at his neighbour's huge tree.

When you see profits in your SIPs, you can be tempted to redeem the corpus and continue with the SIP. Or, you can just let it grow until you retire or until you really need it. You will be surprised to see how much it has actually grown to, if you just let it be. Remember, that 14 lakhs that was accumulated in a 10 year SIP, grew to 2.6 crores by just leaving it there for the next 20 years. If you really want to achieve your financial objectives, continuing to save alone is not enough, you must continue to remain invested.

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