Understanding CAGR

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Information about Understanding CAGR
Finance

Published on March 3, 2014

Author: professorsimplysimple

Source: slideshare.net

Description

Compounded Annual Growth Rate or CAGR is a method to calculate year-over-year growth rate of an investment over a specified period of time.

We have made an attempt to explain the term ‘Compounded Annual Growth Rate’ by way of an interesting example. Do share it if you like it.

You can give us your valuable feedback at professor@tataamc.com

COMPOUNDED ANNUAL GROWTH RATE

COMPOUNDED ANNUAL GROWTH RATE Compounded Annual Growth Rate or CAGR is a method to calculate year-overyear growth rate of an investment over a specified period of time.

CURRENT ANNUAL GROWTH COMPOUNDEDACCOUNT DEFICIT RATE Let us see the formula of the Current Account Balance (CAB) CAB = X - M + NI + NCT X = Exports of goods and services M = Imports of goods and services [Salaries paid or received, NI = Net income abroad credit / debit of income from FII & FDI etc. ] There are two popular methods of NCT = Net current transfers calculating returns: [Workers' Remittances (unilateral), Donations, Aids & Assistance and 1. 2. Grants, Absolute returns Official, Pensions etc] CAGR returns

COMPOUNDED ANNUAL GROWTH RATE Let’s understand this using a simple example.

COMPOUNDED ANNUAL GROWTH RATE Suppose you have invested Rs. 10,000 on 1st February, 2011. On 31st Jan 2014, your investment has grown to Rs. 20,000. Using the absolute return method, you can say your money has doubled by 100% over the last 3 years. Absolute Return = [(End Value – Start Value) / Start Value] x 100 = [(Rs. 20,000 – Rs. 10,000)/ Rs. 10,000] x 100 = 100%

COMPOUNDED ANNUAL GROWTH RATE CAGR however also takes into account the time period you remain invested. CAGR = [(End values/start value) ^ (1/ (End date-start date)) – 1] x 100 = [(20000/10000)^(1/3)-1] x 100 = 26% This means your money grows 26% each year over the period of investment.

COMPOUNDED ANNUAL GROWTH RATE Absolute returns method does not consider the time period. Rs. 10000 growing to Rs. 20000 even after 1 year or 10 years would still be a growth of 100%.

COMPOUNDED ANNUAL GROWTH RATE Whereas CAGR would show a different figure for different time periods as it considers the investment period. Hence your returns calculated using the CAGR method will be lower as compared to absolute returns. CAGR is used to calculate returns if the time period exceeds a year. This is an important point to consider when making investment decisions.

CURRENT ANNUAL GROWTH COMPOUNDEDACCOUNT DEFICIT RATE Let us see the formula of the Current Account Balance (CAB) CAB = X - M + NI + NCT X = Exports of goods and services M = Imports of goods and services [Salaries paid or received, NI = Net income abroad credit / debit of income from FII & FDI etc. ] NCT = Net current transfers [Workers' Remittances (unilateral), Donations, Hope this lesson would enable Aids & Grants, interpret you to calculate andOfficial, Assistance and Pensions etc] CAGRs on your investments.

Please give us your feedback at professor@tataamc.com

DISCLAIMER The views expressed in this lesson are for information purposes only and do not construe to be any investment, legal or taxation advice. The lesson is a conceptual representation and may not include several nuances that are associated and vital. The purpose of this lesson is to clarify the basics of the concept so that readers at large can relate and thereby take more interest in the product / concept. In a nutshell, Professor Simply Simple lessons should be seen from the perspective of it being a primer on financial concepts. The contents are topical in nature and held true at the time of creation of the lesson. This is not indicative of future market trends, nor is Tata Asset Management Ltd. attempting to predict the same. Reprinting any part of this material will be at your own risk. Tata Asset Management Ltd. will not be liable for the consequences of such action. Mutual Fund investments are subject to market risks, read all scheme related documents carefully.

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