Sunday, March 6, 2016

What is Compounded Annual Growth Rate (CAGR)

CAGR or the Compounded Annual Growth Rate measures the annualized return on an investment spread over a period exceeding one year. 

Suppose you invest Rs. 100 into equities at the beginning of year 1 and the investment grows to Rs. 150 at the end of year 3. The investment has therefore earned you a return of Rs. 50 over the period of 3 years.

Your return on investment over the period of 3 years can be computed as follows:

The ending value of investment (Rs 150) less the sum initially invested (Rs. 100), divided by initial investment (Rs. 100) and multiplied by 100.
= ((150 - 100) / 100) * 100
= 50%

 In other words your portfolio value has grown by 50% over the 3 year period.

Compounded Annual Growth Rate

Now, if you wish to find out the annual returns (compounded) your investment generated, the GAGR would come in handy.

Compounded annual growth rate can be calculated as follows

Divide the ending value of investment (Rs. 150) by its value at the beginning of the period (Rs.100), raise the result to the power of one divided by the length (in terms of years) of the investment period (i.e 3 years), and subtract one from the subsequent result.

= ((150/100) ^ (1/3)) - 1
= 0.145 or 14.5 % per annum

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