Average return is the mathematical average of a series of returns generated over a period of time. An average return is calculated the same way as a simple average is calculated. The numbers are added together into a single sum, and then the sum is divided by the count of the numbers in the set.
The average return on a portfolio of stocks can show how well your investments have worked over a period of time. This also helps to predict future returns. The simple average of returns is an easy calculation, but it is not very accurate. To calculate accurate returns, analysts frequently use the geometric mean return or the money-weighted return.
There are several return measures. Three of the most popular are:
The geometric average is a more precise calculation. The benefit of using the geometric mean is that the actual amounts invested do not need to be known. This calculation presents an "apples to apples" comparison when looking at multiple investments' performance over more various time periods.
The geometric average return is also called as Time Weighted Rate of Return (TWRR).
The geometric formula is:
[(1+Return1) x (1+Return2) x (1+Return3) x ... x (1+Returnn)]1/n - 1
The average rate of return (ARR) is the average amount of cash flow generated over the life of an investment. ARR is usually annualized. ARR does not account for the time value of money. That is why many use ARR in conjunction with other metrics when considering large financial decisions.
Both average return and ARR are commonly used methods of determining relative performance levels.