If you have investments, it is important to understand about stock prices, how they fluctuate and earn or lose money. One of the main figures you should understand is how to calculate total return rate of your stocks. Although the total return formula may seem complicated, if you take the time to understand what it is and use a calculator, it can give you the value of your stocks.
What is the Total Return Formula?
Are you wondering how to calculate total return? First, you need to understand the definition of total return. The total return of a stock or portfolio of investments is its value, or rate of return, over a certain time. Most stock evaluations are done for a one-year period. When calculated, the result is a percentage of the amount of money that was invested.
The value of the stock includes its interest, capital gains, dividends, and distributions over the time period that is evaluated, such as one year. There are two categories of returns: income and capital appreciation.
The return for income includes the interest that is paid by fixed-interest investments, dividends, and distributions. Capital appreciation is the change in the market price of assets. So, if you have stocks that increased in value, then the difference between what you bought them for and their current value is their capital appreciation.
The Importance of Knowing How to Calculate Total Return
Being able to calculate the total return of your stocks is important for knowing how their value changed in a given period of time. The total return can be evaluated for a stock over a year, five, ten years or any amount of time you choose. When it comes to taxes, the total return needs to be evaluated for the previous year to determine if it has increased in value.
If it has, then you may need to pay capital gains taxes if you sold any of your shares. Also, if you were paid dividends on any of your stocks, then you may need to pay taxes on those dividends. Since the total return looks back to evaluate a stock’s value, it cannot determine its future value.
Calculations for Returns: The Total Return Formula
There are many calculations that determine the value of your securities, including the total return formula. There are formulas to calculate:
- Total Returns
- Annualized Total Returns
- Simple Returns
- Compound Annual Growth Rate
Total Return Calculation
The calculation of an asset’s total return is simple. If you’re calculating the return of a stock for one year, it is:
(The asset’s value at the end of the year – the value at the beginning of the year) + dividends/value of the investment at the beginning of the year = the total return.
A simple example would be if the stock were purchased for $4,000 and now the value is $4,500; you have a gain of $500. If you had dividends in the amount of $175, then the total return would be calculated as:
($4,000 – $4,500) + $175/$4,000 = Total Return.
$500 + $175/$4,000 = Total Return.
$675/$4,000 = Total Return.
0.16875 or 16.88% is the total return of the stock at the end of the year.
Evaluate Returns for the Year
For each stock that you have, you can use this formula to evaluate their total returns for the year. If your stock had a loss, the same formula would apply. So, in this example, if the value of the stock at the end of the year were $3,750, the total return would be calculated as:
($4000 – $3750) + 0/$4,000 = Total Return
If the stock experienced losses, then it is unlikely you would be paid dividends on it so that you would use the value $0 for dividends.
($250) + $0/$4,000 = Total Return
$250/$4,000 = Total Return
0.0625 or 6.25% would be the total return of the stock using the total return formula if it had losses during the previous year.
Annualized Total Return Calculation
An annualized total return is the amount of money an investment earns each year over a certain time period. For instance, if you wanted to know the total return of stock for five or 10 years, you would use the calculation for the annualized total return. The annualized total return is a good figure to know when you’re looking for stocks in which to invest. It looks at its past performances over any given time frame. The formula can be used to look at a stock’s performance for any given number of days as well.
The formula for calculating the annual return percentage, which is often expressed as the annual percentage yield, or APY is:
APY = ((initial price paid for stock + gain) / initial price paid) ^ (365/days) – 1
For example, if the initial price paid for the stock, known as the principal, was $5,000 and it made $1,500 over two years, we could figure out the annual return rate.
APY = (($5,000 + $1,500) / $5,000) ^ (365/730) -1
If you’re not great at math, you can find an annualized total return’s calculator online. Using the example above, we get an annualized total return of 12.29%.
There is also a calculation using the annualized total return to try to project the returns into the future. The calculation is:
PR = (principal + gain) (1 + APY) ^ Y (which is for the number of years).
In our example, if we wanted to know what the value of the stock would be 15 years from now, the formula is:
PR = ($5,000 + $1,500) (1 + 12.29%) 15
PR = $28,450.26
You can use an online calculator to find this total as well. If you don’t know the inflation rate or tax rate, you can set those to zero.
Simple Return Calculation
A simple return gives you the return on your investment after you’ve sold the stock. It is easier to calculate than the annualized total return. The formula is:
Net proceeds + Dividends / Cost Basis – 1
The net proceeds would be what you initially paid for the stock, along with the fee paid for the transaction, plus the selling price of the stock along with its transaction fee. So, if a stock was purchased for $2,000 plus a $10 transaction fee the cost basis is $2,010.
If you then sold the stock for $2,750 minus the $10 transaction fee, the net proceeds are $2,740.
If you were paid a dividend of $110 on the stock, that would be added to the $2,740 for a total of $2,840. That amount is then divided by the cost basis, which is $2010 to get 1.41. That amount is – 1 for a total of 0.41 x 100 to get the percentage of 41%
$2,740 + $110 / $2,010 – 1 = 41%
This calculation doesn’t account for how long the stock was held, it is merely the return after you’ve sold it.
Compound Annual Growth Rate Calculation
If you’ve held onto a stock for several years, then you may wish to know its annual rate of growth. While an annualized 12.29% growth rate, such as in the example above, is good for two years, over a 10-year period it isn’t quite as good.
To calculate the compound annual growth rate, CAGR, divide the current value of the stock by its value when it was initially bought. Then, the result will be raised by the power of one divided by the length of time in question. You would then subtract that result by one. It would look like this:
CAGR = (current (or ending) value of stock / initial price of stock) ^ (1/# years) – 1
So, if you initially paid $2,500 for the stock and the ending value is $4,250, and you held the stock for 10 years, the calculation would be:
CAGR = ($4,250 / $2,500) ^ (1/10) – 1
CAGR = 5.45%
Find the CAGR for Your Stocks
Use this calculator to find out the CAGR for your stocks if you’ve held them for more than one year. This figure is the yield of an investment after it has been compounded each year. In the example, the stock rose in value, but 5.45% may be considered poor for the amount of time the stock was held. Ideally, you would look for a higher rate of return on your investments.
Knowing how to perform these calculations is important for knowing how well your stocks are doing and the information may be needed for your tax returns each year. It can also help you decide when to sell a stock you’ve held onto or whether to reinvest in it when you make dividends on some stocks.
Even if you’re not a math whiz, there are several tools online that you can use to calculate these formulas and get the information about your investment performances. While your broker or online account can provide these figures for you, it is important to know the calculations to understand how the numbers are achieved.
How to Calculate Total Return: Final Review
Whether you have a few stocks that you’ve inherited or are a serious investor trying to earn money for retirement, you should know how to calculate the total return formula, as well as these others, to keep track of your investments.