Let us start off with a hypothetical illustration of two investors Ajay and Sunil. Ajay believes in taking risk in his investments and is clear that some amount of risk is primordial to higher returns and wealth creation. Sunil, on the other hand, is a lot more conservative and believes that liquidity and safety is paramount importance on a rainy day. Let us look at a comparative table how the corpus of Ajay and Sunil performed over the next 25 years.

Particulars

Ajay Corpus

Particulars

Sunil Corpus

Starting Corpus

Rs.5,00,000

Starting Corpus

Rs.5,00,000

Invested corpus in

Equity Funds

Invested corpus in

Liquid Funds

CAGR return

15%

CAGR returns

6%

Years Invested

25 years

Years invested

25 years

Final Corpus

Rs.1.65 crore

Final Corpus

Rs.21.46 lakhs

Wealth Ratio

32.91 times

Wealth Ratio

4.29 times

Now that is a huge difference in wealth. What has Ajay done right and what is it that Sunil has done wrong. Sunil has created a wealth quotient of just 4.29X over 25 years whereas Ajay has managed a wealth quotient of 32.91X during the same period. The difference was that Ajay was willing to take on more risk. It is not just that. Ajay also realized that after a point of time, the power of compounding becomes so powerful and exponential that wealth creation is on auto mode and there is not much of an individual effort required. Remember, over the long run a diversified portfolio of equity assets gives positive returns on a sustainable basis. That has been the experience from the stock market indices and also from the performance of diversified equity funds. In case of Ajay, he took on the higher risk of equity investing which got evened out over time. However, Sunil took on the bigger risk of (not taking any risk) and paid a huge price in the form of lower wealth creation. In the long run, if you want to create wealth, it is criminal to just put your money in a bank deposit or a liquid fund and lose out on the power of compounding that equity offers. It is this understanding that is at the core of returns in the long run. Of course, the key caveat remains that you need to take calibrated risks according to your risk capacity and not just into speculative transactions.