The 8-4-3 Rule in Mutual Funds

Investing for long term financial goals requires discipline and patience. Building a sizeable corpus to fund retirement, children's education or other ambitions can seem like a distant dream today. However, with a well-crafted investment strategy and long-term commitment, achieving one's targets is possible. One approach that has proved highly effective is the concept of the 8-4-3 rule in mutual fund investments.

• Table of contents

1. What is the 8-4-3 rule?
2. Example of 8-4-3 rule at work
3. Realizing the 8-4-3 potential
4. The need for consistency
5. FAQs

What is the 8-4-3 rule?

The 8-4-3 rule illustrates how your potential gains can accelerate over time thanks to compounding and a committed investment approach. For example, if you invest a consistent amount into an investment scheme over the long term, at an expected rate of interest of – let’s say – 12%, then this is how the 8-4-3 rule can work in your favour:

Year(s) 1 to 8 – Corpus will grow steadily for the first 8 years.

Years 9 to 12 – It will achieve the same growth as the first 8 years, i.e., similar accumulation of wealth, but in half the time (4 years).

Years 13 to 15 – The corpus will again match the previous growth but in 1 year less (3 years compared to 4 years previously).

This accelerated wealth accumulation can be attributed to compound interest and regular investments. Under compounding, the returns earned each year are automatically reinvested to start generating returns of their own over the following period. So, the longer the timeframe, the more powerful the multiplier effect of compounding becomes. The 8-4-3 concept illustrates how initially sluggish gains gather rapid momentum with the passage of time.

Example of 8-4-3 rule at work

Let us understand the 8-4-3 mathematics through a numerical example. Suppose an investor starts a monthly SIP of Rs. 10,000 in a diversified mutual fund portfolio aiming to create wealth over the long term (15 years).

Assuming an average annualised return of 12%, here is how the wealth would accumulate:

First 8 years

• Invested Amount: Rs. 9.6 lakh
• Gain: Rs. 6.1 lakh
• Corpus: Rs. 15.7 lakh

Next 4 years

• Invested Amount: Rs. 14.4 lakh
• Gain: Rs. 16.4 lakh
• Corpus: Rs. 30.8 lakh

Next 3 years

• Invested Amount: Rs. 18 lakh
• Gain: Rs. 29.6 lakh
• Corpus: Rs. 47.6 lakh

As is clear, the compounding effect magnifies over time resulting in shorter durations generating more returns. This demonstrates how staying invested for the long haul allows the 8-4-3 pattern to play out almost miraculously through the magic of compounding returns. It also stresses that even small monthly contributions can grow into large sums given sufficient time in the market to work.

Realizing the 8-4-3 potential

While the 8-4-3 concept provides a good investment blueprint, there are certain factors that determine how closely it can be replicated in reality.

• Disciplined SIP: Regular monthly investments as stipulated should continue without breaks to benefit from rupee-cost averaging.
• Asset allocation: A prudent spread across asset classes, especially in equity instruments for long term growth potential.
• Inflation adjustment: Targets need to account for estimated inflation to ensure real worth of accumulated corpus does not diminish.
• Corpus withdrawal: Avoid premature encashing of profits to allow the virtuous compounding cycle to run uninterrupted.
• Volatility management: Remain invested during market downturns as recovery is certain over long periods.

Always remember that the 8-4-3 rule is a general illustration and actual returns may vary depending on the mutual fund performance and market conditions.

The need for consistency

Compounding works well with consistent investments made regularly over long periods. Automating investments through SIPs ensures monthly contributions are made without fail. Missing even a few monthly installments can significantly delay wealth accumulation goals.

Without consistency, one cannot take advantage of rupee-cost averaging effects. Volatility risks are also better managed through staggered investment of identical amounts. Therefore, it is consistency, not magnitude, of efforts that determines success with compounding.

Conclusion
By adhering to disciplined SIPs in a diversified portfolio tailored to their risk profile and time horizon, investors stand a reasonable chance of leveraging the wealth multiplier effect of the 8-4-3 rule. Though success is not guaranteed, this concept provides a tested framework for transforming small savings into sizeable life goals through the marvel of long-term compounding.

FAQs:

What is 8-4-3 rule in mutual funds?
This concept states that investors who invest regularly and stay in the market over a long horizon can potentially benefit from compounding and accelerated growth over time.

What are the key requirements to follow the 8-4-3 rule?
Patience and commitment to stick to a long-term investment plan are crucial ingredients. Compounding acts as a silent wealth accelerator only with unwavering discipline over many years. An SIP strategy can help you maintain a consistent approach.

Mutual Fund investments are subject to market risks, read all scheme related documents carefully.
This document should not be treated as endorsement of the views/opinions or as investment advice. This document should not be construed as a research report or a recommendation to buy or sell any security. This document is for information purpose only and should not be construed as a promise on minimum returns or safeguard of capital. This document alone is not sufficient and should not be used for the development or implementation of an investment strategy. The recipient should note and understand that the information provided above may not contain all the material aspects relevant for making an investment decision. Investors are advised to consult their own investment advisor before making any investment decision in light of their risk appetite, investment goals and horizon. This information is subject to change without any prior notice.