The 7-5-3-1 rule for investing in mutual funds is a structured and simple guideline to help investors build wealth over the long term. Let’s break it down and explore how each component can be beneficial:
7 (Invest for at least 7 years)
Investing in mutual funds requires patience. The rule suggests holding your investments for at least seven years to allow your wealth to grow through the power of compounding. Long-term investment in mutual funds often smooths out short-term market volatility, allowing for potentially higher returns over time. This encourages long-term financial planning rather than expecting quick gains.
5 (Diversify like five fingers)
Just as every finger is different, your investment portfolio should be diversified across sectors, companies, and even geographies. The “five fingers” represent five different areas of diversification, which might include:
- Large-cap funds (stable, blue-chip companies)
- Mid-cap and small-cap funds (riskier but higher growth potential)
- Value funds (investing in undervalued stocks)
- Growth at Reasonable Price (GARP) funds (balanced growth and valuation approach)
- International funds (exposure to global markets)
This ensures that risks are spread out, and even if one sector underperforms, others might still provide solid returns.
3 (Overcome three emotions: excitement, fear, and tension)
The stock market is volatile, and mutual fund investments are subject to market risks. The 3 in this rule represents the mental discipline required to handle the emotions of excitement, fear, and tension. It’s crucial not to let short-term market fluctuations affect your long-term strategy. Avoid panic selling during market downturns or over-enthusiasm during bull markets.
1 (Increase your investment every year)
This part of the rule encourages an annual step-up in your investments. If you start with ₹5,000 per month, increase it to ₹6,000 or more the next year, depending on your financial capability. This helps keep up with inflation and adds a significant amount to your wealth over time, especially when coupled with the power of compounding.