Want to invest via lumpsum? Here is how you can calculate returns!

Investing a large lumpsum amount can seem daunting for many investors. However, with some basic calculations, you can estimate the potential returns and decide where to invest the lumpsum to meet your financial goals. Here is how to approach lumpsum investment return calculations.

Choose appropriate asset classes

Asset class refers to the type of investment such as equity, debt, gold etc. Equity assets like stocks carry higher risk but generate inflation-beating returns over 5-10 years or longer. Debt assets like FDs involve lower risk but limited upside. Gold provides diversification. Choose asset classes aligning with your risk appetite and horizon. For long-term lumpsum investments, allocate predominantly to equity assets.

Estimate realistic returns 

Assign expected realistic returns to each asset class you choose. For equities, target 12-15% CAGR over a long-term horizon of 7-10 years. For debt, estimate 6-8% returns based on prevailing FD interest rates. Gold may generate 5-8% returns long-term. Make conservative return assumptions and don’t get swayed by market hype. Past returns do not indicate future performance.

Decide on asset allocation

Asset allocation means deciding what percentage of your lumpsum to allocate to each asset class. This should correspond to your risk profile and investment horizon. For e.g. – a moderate risk allocation could be Equity – 65%, Debt – 30%, Gold – 5%. Or a conservative allocation may be Equity – 40%, Debt – 50%, Gold – 10%. Avoid skewing the allocation excessively to any one asset.

Factor in expense ratios 

Returns generated by mutual funds are impacted by expense ratios – the fees charged to manage the funds. Debt funds have expense ratios of 0.5-1.5% while equity funds range from 1-2.5%. Index funds and ETFs have lower expenses. For direct investments in stocks or FDs, brokerage and taxes apply. Account for these expenses in your return assumptions.

Use the rule of 72

The Rule of 72 offers a quick way to estimate returns required to double your investment over a period. Divide 72 by your investment horizon in years. The result is the return rate needed to double your money in that period. For example, for doubling in 10 years, 72/10 = 7.2% approximate return is needed. This gives a handy indication of required returns.

Use a lump sum calculator 

Use a lumpsum calculator to plan your investment. A lump sum calculator is a tool used to calculate the value of a lump sum of money over a specific period of time. It is commonly used in financial planning and investment analysis to determine the future worth of a lump sum investment or to calculate the present value of a future lump sum.

Consider reinvestment of income

As investments generate income like interest, dividends or rentals, assume the income is reinvested. For equities, factoring in dividend reinvestment can increase total returns by 2-3% annually. Debt investments like FDs should always be reinvested for compounding effect. Don’t ignore this income as it contributes to total returns.

Account for inflation

Reduce your expected returns assumptions by accounting for inflation to get real returns. If you assume 10% returns for equities, adjusting for 6% inflation gives real return of just 4%. This is the actual growth in purchasing power. Target returns should always beat the prevailing inflation rate to generate positive real returns.

Review asset allocation periodically

Over long investment horizons, review your asset allocation once every few years to account for performance variations or change in risk profile. You may have to rebalance funds across classes to restore target allocation. This ensures you continue investing according to your plan instead of emotions.

The above steps should help you reasonably estimate potential returns on your lumpsum investment in some best mutual funds. Be pragmatic and don’t expect unrealistically high returns when doing your calculations. Invest prudently, stay diversified across asset classes and you should be able to meet your investment objectives.