Use The Following Returns Calculate The Average Returns

Calculating the average of investment returns is a fundamental financial analysis technique. This guide explains how to compute average returns from a series of investment returns, including the formula, step-by-step instructions, and practical examples.

How to Calculate Average Returns

To calculate the average returns from a series of investment returns, follow these steps:

List all the individual returns from your investments.
Sum all the returns together.
Divide the total by the number of returns to get the average.

This method provides a simple average that can be used to assess the overall performance of your investments.

The Formula

The formula for calculating average returns is straightforward:

Average Return = (Sum of all individual returns) / (Number of returns)

Where:

Sum of all individual returns is the total of all returns from your investments.
Number of returns is the count of individual returns in your series.

This formula gives you the arithmetic mean of the returns, which is commonly used in financial analysis.

Worked Example

Let's calculate the average return for an investment that had the following returns over three periods:

Period 1: 5% return
Period 2: 3% return
Period 3: 7% return

Using the formula:

Average Return = (5 + 3 + 7) / 3 = 15 / 3 = 5%

The average return for this investment is 5%.

Interpreting Results

The average return provides a simple measure of your investment's overall performance. A higher average return indicates better performance, while a lower average return suggests underperformance.

However, it's important to consider the following:

Volatility: The average doesn't account for the variability of returns.
Time horizon: The average is most meaningful when considering the same time period for all returns.
Risk-adjusted returns: For a more complete picture, consider risk-adjusted metrics like Sharpe ratio.

Using the average return alongside other financial metrics provides a more comprehensive view of your investment performance.

FAQ

What is the difference between average return and compound return?: The average return is the arithmetic mean of individual returns, while the compound return accounts for the reinvestment of returns. Compound returns are typically higher than average returns over time.
Can I use the average return to compare different investments?: Yes, but only if the investments have the same time horizon and risk profile. For a more accurate comparison, consider risk-adjusted returns.
What if my returns include negative values?: Negative returns are included in the calculation just like positive returns. The average will reflect the overall performance, including periods of underperformance.
Is the average return the same as the geometric mean return?: No. The geometric mean return is calculated by multiplying all the returns and taking the nth root, where n is the number of returns. The geometric mean is more appropriate for calculating compound returns.
How often should I calculate the average return?: You can calculate the average return at any time, but it's most useful when comparing performance over the same time period. For ongoing monitoring, consider quarterly or annual averages.