What Is Average Return?
The average return is the simple mathematical average of a series of returns generated over a specified period of time. An average return is calculated the same way that a simple average is calculated for any set of numbers. The numbers are added together into a single sum, then the sum is divided by the count of the numbers in the set.
Key Takeaways
- The average return is the simple mathematical average of a series of returns generated over a specified period of time.
- The average return can help measure the past performance of a security or portfolio.
- The average return is not the same as an annualized return, as it ignores compounding.
- The geometric average is always lower than the average return.
Understanding Average Return
There are several return measures and ways to calculate them. For the arithmetic average return, one takes the sum of the returns and divides it by the number of return figures.
AverageReturn=NumberofReturnsSumofReturns
The average return tells an investor or analyst what the returns for a stock or security have been in the past, or what the returns of a portfolio of companies are. The average return is not the same as an annualized return, as it ignores compounding.
Average Return Example
One example of average return is the simple arithmetic mean. For instance, suppose an investment returns the following annually over a period of five full years: 10%, 15%, 10%, 0%, and 5%. To calculate the average return for the investment over this five-year period, the five annual returns are added together and then divided by 5. This produces an annual average return of 8%.
Now, let’s look at a real-life example. Shares of Walmart returned 9.1% in 2014, lost 28.6% in 2015, gained 12.8% in 2016, gained 42.9% in 2017, and lost 5.7% in 2018. The average return of Walmart over those five years is 6.1%, or 30.5% divided by 5 years.
Calculating Returns From Growth
The simple growth rate is a function of the beginning and ending values or balances. It is calculated by subtracting the ending value from the beginning value and then dividing by the beginning value. The formula is as follows:
GrowthRate=BVBV−EVwhere:BV=BeginningValueEV=EndingValue
For example, if you invest $10,000 in a company and the stock price increases from $50 to $100, then the return can be calculated by taking the difference between $100 and $50 and dividing by $50. The answer is 100%, which means you now have $20,000.
The simple average of returns is an easy calculation, but it is not very accurate. For more accurate calculations of returns, analysts and investors also frequently use the geometric mean or the money-weighted rate of return.
Average Return Alternatives
Geometric Average
When looking at average historical returns, the geometric average is a more precise calculation. The geometric mean is always lower than the average return. One benefit of using the geometric mean is that the actual amounts invested need not be known. The calculation focuses entirely on the return figures themselves and presents an apples-to-apples comparison when looking at two or more investments’ performances over more various time periods.
The geometric average return is sometimes called the time-weighted rate of return (TWR) because it eliminates the distorting effects on growth rates created by various inflows and outflows of money into an account over time.
Money-Weighted Rate of Return (MWRR)
Alternatively, the money-weighted rate of return (MWRR) incorporates the size and timing of cash flows, making it an effective measure for returns on a portfolio that has received deposits, dividend reinvestments, and/or interest payments, or has had withdrawals.
The MWRR is equivalent to the internal rate of return (IRR), where the net present value equals zero.
FAQs
Average Return Example
How do you calculate the average return? ›
In its simplest terms, average return is the total return over a time period divided by the number of periods.
What is an example of the average rate of return? ›
The ARR is calculated by dividing the average annual profit by the cost of investment and multiplying by 100. It means that the average annual profit from the investment will be 20 percent. It means that the average annual profit from the investment in new machinery will be 15 percent.
What is the formula for calculating mean return? ›
Mean returns are calculated by adding the product of all possible return probabilities and returns and placing them against the weighted average of the sum.
How do you calculate return on average? ›
For the arithmetic average return, one takes the sum of the returns and divides it by the number of return figures. The average return tells an investor or analyst what the returns for a stock or security have been in the past, or what the returns of a portfolio of companies are.
What is the correct formula for calculating return? ›
Key Takeaways
Return on investment (ROI) is an approximate measure of an investment's profitability. ROI is calculated by subtracting the initial cost of the investment from its final value, then dividing this new number by the cost of the investment, and finally, multiplying it by 100.
How do you calculate return rate? ›
You can calculate the rate of return on your investment by comparing the difference between its current value and its initial value, and then dividing the result by its initial value. Multiplying the result of that rate of return formula by 100 will net you your rate of return as a percentage.
How to calculate average? ›
Average This is the arithmetic mean, and is calculated by adding a group of numbers and then dividing by the count of those numbers. For example, the average of 2, 3, 3, 5, 7, and 10 is 30 divided by 6, which is 5.
How is the average rate calculated? ›
Plan The average rate is given by the change in concentration, ∆[A], divided by the change in time, ∆t. Because A is a reactant, a minus sign is used in the calculation to make the rate a positive quantity.
What does the average formula return? ›
Description. Returns the average (arithmetic mean) of the arguments. For example, if the range A1:A20 contains numbers, the formula =AVERAGE(A1:A20) returns the average of those numbers.
Take the ending balance and either add back net withdrawals or subtract out net deposits during the period. Then, divide the result by the starting balance at the beginning of the month. Subtract 1 and multiply by 100, and you'll have the percentage gain or loss that corresponds to your monthly return.
Is mean return same as average return? ›
Meaning of Average Return
With any set of numbers, an average return is calculated the same way a simple average is calculated. The numbers are summed up into a single sum. It is then divided by the number in the set. A simple arithmetic mean is one example of average return.
How to calculate the average return? ›
To calculate the average rate of return, add together the rate of return for the years of your investment, and then, divide that total number by the number of years you added together. Add together the annual rate of returns. Divide the sum by the number of annual returns you added.
How do you calculate average accounting return? ›
The Accounting Rate of Return formula is as follows: ARR = average annual profit / average investment.
What is meant by average returns on investment? ›
The average rate of return is the average annual amount expected from an investment. Calculating it requires dividing the anticipated annual amount of cash flow by the average capital cost. You may calculate the ARR before or after an investment to assess its financial benefits.
What is the arithmetic average return formula? ›
The arithmetic return is the most basic form of average: add the numbers together and divide them by the count of numbers that were added together. The geometric return is usually more useful in finding portfolio performance, as it's the n-root of the product of n percentages.
How to calculate average monthly return? ›
The calculation of monthly returns on investment
Once you have those figures, the calculation is simple. Take the ending balance and either add back net withdrawals or subtract out net deposits during the period. Then, divide the result by the starting balance at the beginning of the month.
What is the average annual return? ›
The average annual return (AAR) is a percentage that represents a mutual fund's historical average return, usually stated over three-, five-, and 10 years. Before making a mutual fund investment, investors frequently review a mutual fund's average annual return as a way to measure the fund's long-term performance.
