Average Return: Meaning, Calculations and Examples
The average return is the straightforward mathematical mean of a set of returns produced over a certain amount of time. The method used to generate a simple average for any given collection of values may also be used to calculate an average return. After adding all the numbers to create a single sum, the total is divided by the total number of numbers in the set.
Comprehending Average Return
There are several return metrics and methods for computing them. To get the arithmetic average return, divide the total returns by the total number of return figures.
Total Returns: Average Return
Quantity of Refunds
Number of Returns / Average Return
An investor or analyst can learn the historical returns of a stock, investment, or firm portfolio by looking at the average return. Since the average return does not account for compounding, it is not the same as an annualized return.
Example of Average Return
The primary arithmetic mean is one illustration of an average return. Let’s say that over five complete years, an investment yields the following yearly returns: 10%, 15%, 10%, 0%, and 5%. The five-year returns are totaled and divided by five to determine the average return on the investment throughout these five years. This yields an average yearly return of 8%.
Let’s now examine a real-world illustration. Walmart stock saw a 9.1% return in 2014, a 28.6% loss in 2015, a 12.8% gain in 2016, a 42.9% increase in 2017, and a 5.7% loss in 2018. Walmart’s five-year average return is 6.1%, or 30.5% divided by five years.
Finding Growth’s Returns
The starting and final numbers, or balances, determine the simple growth rate. To calculate it, take the initial value, subtract the finishing value, and divide the result by the beginning value. The following is the formula:
Growth Rate (BV − EV BV), where BV is the starting value
EV stands for ending value.
Rate of Growth = BV BV – EV
Where BV is the starting value.
EV stands for ending value.
For instance, if you invest $10,000 in a business whose stock price rises from $50 to $100, you may compute your return by dividing the difference between $100 and $50 by $50. If the response is 100%, you now have $20,000.
Although simple to calculate, the simple returns average is not remarkably accurate. Analysts and investors also commonly employ the geometric mean or the money-weighted rate of return for more precise return computations.
Alternatives with Average Returns
The Geometric Mean
The geometric average is a more accurate computation when examining average historical returns. The average return is always higher than the geometric mean. The fact that it is not necessary to know the precise quantities spent is one advantage of employing the geometric mean. When comparing the performance of two or more assets across a range of periods, the computation considers the return numbers alone and provides an apples-to-apples comparison.
The geometric average return, which removes the distortions in growth rates caused by different inflows and outflows of money into an account over time, is often referred to as the time-weighted rate of return (TWR).
Rate of Return Weighed by Money (MWRR)
As an alternative, the money-weighted rate of return (MWRR) is a valuable indicator of returns on a portfolio that has seen withdrawals, dividend reinvestments, and interest payments. It also takes into account the quantity and timing of cash flows.
When the net present value equals zero, the MWRR equals the internal rate of return (IRR).
Conclusion
- The average return is the straightforward mathematical mean of a set of returns produced over a certain amount of time.
- An investment’s or portfolio’s historical performance may be evaluated using the average return.
- Since the average return does not account for compounding, it is not the same as an annualized return.
- The average return is always higher than the geometric average.
