18 August 2021
In life people want shortcuts, that’s the reason rules of thumb find someplace in one life. There are rules of thumb for everything. In games, always start with a good serve; for boiling eggs there is a six-minute boiling rule. Why should investing be an exception.
In investing, there are certain rules that help us gauge how fast our money will grow or how fast it will lose its value. There are rules to make investment making easier. Such as asset allocation in mutual funds, how much to save for retirement and for emergencies etc.
In this blog, we will learn about the most popular thumb rules in the world of investing.
Rules to understand how fast your money can grow –
Rule of 72 –
We all want the money we invest to double and are always on the lookout for the ways it can be done in the shortest amount of time. Well, calculating the number of years in which your money doubles is very easy with the Rule of 72.
According to this rule if you divide 72 by the expected rate of return, you can get a fairly accurate estimate of the number of years your money can take to double.
For example, let’s suppose you have invested Rs 1 lakh in a product that provides you a rate of return of 6 percent. Now, if you divide the number 72 with 6, you arrive at 12. That means, your Rs 1 lakh will become Rs 2 lakh in 12 years.
You can also use the Rule of 72 to calculate the interest rate required for the investment to double in a set time frame.
For example, if you want your investment to double within 6 years, Doubling Time = 72/Rate of Return
Rate of Return = 72/Doubling Time = 72/6 =12% p.a.
Rule of 114 –
For determining the number of years it will take for your investment to triple itself, use the Rule of 114. According to this rule, if you divide the expected rate of return from 114, you can get an estimate of the number of years your money can take to triple.
The answer is the number of years in which your investment will triple. So, if you invest Rs 1 lakh in a product that gives you an interest rate of 6 percent, then as per the Rule of 114, it will become Rs 3 lakh in 19 years.
Rule of 144 –
Rule of 144 helps you ascertain in how many years will your money quadruple if you know the rate of return. By dividing the expected rate of return with 144, the remainder shall be the number of years required to quadruple the money invested.
Quadrupling Time = 144/Rate of Return
If you invest Rs.1,00,000 with an expected rate of return of 10% per annum, then
Quadrupling Time = 144/10 =14.4 years
Hence, you can expect your investment to triple in 14.4 years. It is important to remember that this is rule is applicable in the case of investments that offer compound interest.
Rules to understand how fast your money value can diminish -
Rule of 70 –
Even if you don’t spend a single penny from the wealth you own today, the value in 10 or 20 years shall be way less than it is today. The reason being inflation. This rule helps you understand the value of money in 10 or 20 years keeping inflation in mind.
To calculate this, divide 70 by the current inflation rate. The remainder is the number of years in which your wealth will be worth half of what it is today.
For example – you have Rs 50 lakh, and the current inflation rate is 5%. In 14 years, your Rs 50 lakh will be worth Rs 25 lakh, according to the Rule of 70.
This is especially useful for retirement planning, as it affects the way you set up your monthly withdrawals. However, do keep in mind that the inflation rate keeps varying.
Some other rules to keep in mind while investing –
Rule of 10,5,3 -
When we invest money or even consider investing money, we usually look for the rate of return on our investments. The 10,5,3 rule will assist you in determining your investment’s average rate of return.
Though mutual funds offer no guarantees, according to this law, long-term equity investments should yield 10% returns, whereas debt instruments should yield 5%. And the average rate of return on savings bank accounts is around 3%.
100 minus age Rule -
The 100 minus age rule is a great way to determine one’s asset allocation. That is, how much you should allocate in equities and how much in debt.
For this, subtract your age from 100, and the number that you arrive at is the percentage at which you should invest in equities. The rest should be invested in debt.
For example, if you are 25 years old and you want to invest Rs 10,000 every month. Here if you use the 100 minus age rule, the percentage of your equity allocation would be 100 – 25 = 75 percent. Then Rs 7,500 should go to equities and Rs 2,500 in debt. Similarly, if you are 35 years old and want to invest Rs 10,000, then according to the 100 minus age rule the equity allocation would be 100 – 35 = 65 percent. That means, Rs 6,500 should go in equities and Rs 3,500 in debt.
Finally, to know if you are wealthy, follow this rule –
The Net Worth Rule –
Thomas J. Stanley and William D. Danko in “The Millionaire Next Door: The Surprising Secrets of America's Wealthy” postulate that an average individual has a net worth equal to the product of their age and one-tenth of their pre-tax annual income. This should be the least net worth you should aim for. Remember that net worth includes not just your cash, investments and home equity but also tangible property like jewelry, furniture and other assets like books and paintings that you may own.
So if you're 40 and make Rs 20 lakh a year, you should have a net worth equal to Rs 80 lakh, assuming you have no inheritance. If you want to secure your position as wealthy, your net worth should be double of that.
Sometimes Rules of thumb will give you a false sense of security or wrong guidance, they should always be taken with a pinch of salt. The thumb rules listed here are to be used as starting points - start here and tweak them based on your risk appetite, inherited wealth and personal goals.
The content of this article is for information purpose only and does not constitute advice or a legal opinion and are personal views of the author. It is based upon facts available at that point of time and prepared with due accuracy & reliability. The possibility of other views on the subject matter cannot be ruled out. By the use of the said information, you agree that the Author / Treelife Consulting is not responsible or liable in any manner for the authenticity, accuracy, completeness, errors or any kind of omissions in this piece of information for any action taken thereof.
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