For most investors, the biggest challenge in s is not choosing the ‘best fund’, but staying invested long enough to get the power compounding working. Often investors, stop investment midway due slow growth during the initial years, market volatily and unrealistic return expectations.
So, to bring more structure to investing, many experts advise investors to refer to the Rule of 7-5-3-1. Instead of focusing only on returns, it helps them understand the importance of patience, diversification, and also emotional discipline when it comes to investing.
What is 7-5-3-1 SIP Rule?
The 7-5-3-1 rule in mutual fund SIPs is a simple way to understand how compounding and systematic investing can help build long-term wealth. And here’s what the rule says.
Stay invested for at least 7 years:
Equity investment pays off only if you stay invested for the long term. may impact your investment massively in the short term, but owing to the power of compunding, the portfolio value gets a significant boost over the long term
Historical data shows that one needs to remain invested for at least 7 years to see this magic work.
For example, if investor A invest ₹5,000 for 3 year at 12% rate of interest, he is likely to build a asset worth ₹2.17 lakh. Now, investor B makes a similar investment but continues it for 7 years. By the end of the seventh year, he creates a corpus of ₹6.6 lakh. Now, look at they money they had put in – Investor A invested ₹1,80,000 to earn a return of ₹37,000, while B invested ₹4,20,000 to earn ₹2.39 lakh as returns.
Use 5 investment buckets
Diversification is the best strategy to protect your portfolio from heavy losses during and at the same time, it gives an extra edge to your investements when indices are running high
The rule of 5 emphasises the importance of adopting a diversified strategy. For example, it could be exposure to:
- Large-cap equity
- Mid cap equity
- Value stocks
- Debt focus investment
- Gold
Behold the 3 emotions
Investing has lot to do about psychology of money. Being too emotional with your money can stop your investment journey midway or become too conservative in your decisions, which may limit your wealth creation potential. Here are the 3 kind of emotions you need to ignore as an investor
Doubt: Equity are known to provide high returns, but most investors ignore the fact that you need to stay invested for long to achieve that. Now, in the intial period, SIP returns may look average. In case, the investor is expecting a high return, the starts doubting the entire idea
Dissapointment: During market volatility, investments can quickly wipe out earlier gains and may even slip into the red. In such times, the steady return from fixed income instruments look much more attractive, leading to dissapointment. Investors fail to realise these are notional losses and not not actual losses, unless redeemed.
Panic: A market drop of 20% or 30% can push portfolios into temporary losses and trigger fear. For new investors especially, such sharp declines often lead to panic, prompting them to stop or withdraw their SIPs immediately
Rule of one says: Step up your investment as you income increases
You should raise your SIP amount at least once a year. When salaries go up and expenses vary, your should also go up. Here how it impacts your corpus.
Say, Investor A invests ₹5000 monthly at 12% interest rate and continues it for 15 years. In the end of it, he will be able to create a corpus of ₹25 lakh. Investor B makes similar investments, but the only difference is that he keeps stepping up his investments by 10% years. By the 15 year, he was able to build an asset worth ₹41 lakh
Patience, discipline, diversification, and emotional control are key to long-term wealth creation. The 7-5-3-1 rule offers a simple framework to help investors remain consistent