What is Foolsaurus?

It's a glossary of investing terms edited and maintained by our analysts, writers and YOU, our Foolish community. Get Started Now!


Cumulative Return vs. Annualized Return

Original post by Valerie Madison of Demand Media

Cumulative return is the entire amount of money an investment has earned for an investor, irrespective of time. Annualized return is the amount of money the investment has earned for the investor in one year. Both play a role in evaluating the investment's performance, and deciding whether to continue or increase the investment.

Looking at Patterns

Volatility is the fluctuation in a company's financial performance. When assessing an investment, remember that fluctuation is inevitable. Looking at the cumulative return shows you the overall picture of how a company performs financially. If you looked only at the past or current year, you wouldn't know if an outstanding or underwhelming performance was a fluke or the norm. Likewise, when looking at an annualized return, you must compare it against the annualized returns from other years. This lets you see patterns in the company's performance, observing whether its performance is improving or decreasing.

Comparing with Benchmark Return

Benchmark return is the average annual return of the investment. In other words, it's the average annualized return. Knowing the benchmark return lets you see how well a company has performed in recent years compared to its average performance. If the company repeatedly under-performs in comparison to the benchmark return, it could be failing. Comparing the annualized returns against the benchmark return will help you to understand how well your investments are performing in comparison to your expectations.

Economic Context

Always consider annualized returns in the current economic context. Outside factors like an economic recession will obviously influence how your investments perform. Looking at economic predictions will help you to determine if your investment might start to perform better. At the same time, some investments will weather poor economic conditions better than others. Consider whether your investment supplies a necessity or a luxury to customers when investing in difficult times, to predict whether its annualized returns will fall or hold steady.

Significance

Ultimately, in studying an investment's returns, you're trying to predict the return on investment (ROI). If comparing different investments, calculate the ROI for each of them. To find the current ROI, subtract the cost of the investment from the gain from the investment, then divide the result by the cost of the investment. Of course, in your calculation you'll use the gain and cost from a specific period of time. Finding the ROI for each of your investments, or prospective investments, makes comparing them simpler.

                   

References

About the Author

Valerie Madison has been a professional writer and editor since 2006. Her work has been published in a number of well-known publications such as "Fortean Times." Madison has a Master of Arts in English and does editing and writing work for a number of private clients.

Advertisement