A stock return – also known as a financial return – is the money an investor gains or loses on their investment over a period. Therefore, it’s the difference in dollar value that an investment undergoes over time. A positive financial return stands for a profit, while a negative return indicates a loss.
You can express a return as a percentage obtained from the ratio of profit over investment. Investors obtain returns as dividends distributed to them by companies they hold stock in or as profit through trading.
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Understanding Stock Market Returns
Seasoned investors understand that the exact definition of the term “return” is dependent upon the financial data and method used to measure it. The term “profit”, for instance, could stand for operating, gross, before tax, after tax, or net profit. The term “investment” could signify average, total assets, or selected investment.
Holding Period Returns
A holding period return is the return of an investment over the duration a certain investor owns it. Holding period returns can be expressed as a percentage or nominally. The term rate of return (RoR) is commonly used to express holding period return as a percentage.
The return an investor earns over a year is known as an annual return, while the return made over a month is called a monthly return. A year-on-year (YoY) return is an important calculation that measures the change in the price of an investment from a year ago to today.
You can only compare returns over durations of varying lengths when they’ve been converted to intervals of the same length. The most commonly used interval to compare returns is one year. Converting longer or shorter return intervals to annual returns is known as annualization.
How to Calculate Nominal Rate of Return
The net profit or loss of an investment stated in nominal terms is known as a nominal return. It is calculated by finding the difference in investment value over a defined duration, adding any distributions, and subtracting all outlays.
The distributions received by an investor depend on the kind of venture or investment but usually include interest, rights, benefits, rents, dividends, and any remaining cash-flows. Outlays that the investor has to pay also depend on the kind of venture or investment, but generally comprise costs, taxes, and fees involved in obtaining, maintaining, and selling the asset.
Nominal Return vs Real Return
The real rate of return for an investment is calibrated to adjust for differences in costs caused by external factors such as inflation. This rate indicates the nominal rate in real terms, thereby keeping a certain amount of capital’s purchasing power constant over a period.
To put it simply, a nominal return gives you the dollar value change in investment over a period, while the real return adjusts this change for inflation and changes brought about by external factors. It’s important to adjust the nominal return to give its total return since inflation can significantly decrease the value of your investment over time.
For instance, if the nominal rate of your investment in the market is 4%, but inflation is 6%, you stand to lose money. Despite a positive nominal return, you’ll face a negative real return.
How to Calculate Returns on Stocks
A stock’s total return incorporates both dividend income and capital gains or losses in the forms of price changes or interest payments. Its nominal return only signifies its price change.
If you’re looking to invest in an asset, it’s advisable to consider its real rate of return, since it gives you a clear idea of the risks involved. You can get a better picture of the investment’s value by using the real return rate instead of the nominal value, especially during times of high inflation.
Short Term vs Long Term
Investments that you hold for a year or less are known as short term investments, while those that you have for over a year—typically many years—are known as long-term investments.
You don’t stand to make much profit on short-term investments, and they’re usually used to provide the investor with a higher degree of principal protection. On the other hand, if you’re considering making a long-term investment, you’ll want its capital value to increase over time so it can eventually sell for a hefty profit down the line.
For long term investors, it’s important to be disciplined and consistent with investment efforts. MoneyLion’s fully managed, automated investment bank accounts help you to invest consistently without any hassles.
Investing Regularly Without The Headache
It’s impossible to exactly pinpoint changing market conditions and figure out exactly when you should buy or sell. With MoneyLion’s auto investing accounts, you don’t need to worry about timing your trades.
MoneyLion uses an approach called dollar-cost averaging, which enables you to benefit from advantageous market prices without having to wait for the right time to trade. Using dollar-cost averaging allows you to regularly, incrementally invest over a duration to make up for the highs and the lows in a stock’s price. Incremental investments are particularly helpful when you’re unsure about a particular fund’s fluctuations.
No matter what the market condition is, you can automate your investments with a MoneyLion auto bank account without regularly having to monitor which short-term or long-term stocks you should trade.
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