Investors should care annualized rate of return (IRR), How to calculate?

Rate of return

Rate of return for your investment portfolion is important. Let me talk about the key point first: I think the number that investors should pay most attention to is the annualized return on investment (aka Internal return rate: IRR).

In the first chapter of the book “The Rules of Super Growth Stocks Investing”, section 1-1, I listed my historical return on investment for the past two decades, compared with the S&P 500 index and the Taiwan stock price-weighted index for the same period of each year. In addition, I once wrote an article “What information should investors take notes? Why? “, you can find out the figures that investors should record.

How I calculate?

I personally use Google spreadsheet to calculate. The numbers listed below are the numbers that I think investors should record, as well as my calculation methods, or where to obtain them, and points to pay attention to:

How to calculate?
Annual return= (The amount of the investment portfolio on the 12/31 of the year-the fund added during the period-the handling fees-the amount of the investment portfolio on the 12/31 of the previous year) / the amount of the investment portfolio on the 12/31 of the previous year
S&P 500= (S&P 500 index on 12/31 of the year-S&P 500 index on 12/31 of the previous year)/S&P 500 index on 12/31 of the previous year
Annualized rate of return (IRR)=(Present value of portfolio/100)^(1/(number of investment years))-1

Some tips when calculating IRR

Here are some tips when calculating, and my personal experience:

  • All my annual figures are calculated based on the figures on the 12/31 of the year minus the figures on the 12/31 of the previous year.
  • Why is the annualized return on investment (IRR) important? Because according to the rule of 72, you only need to divide 72 by your annualized return on investment to know that your assets will double in about a few years.
  • How to calculate the extra funds added during the investment period? My own calculation method is to deduct the funds invested every year (regardless of the day of the period), various handling fees, commissions, taxes, ADR storage fees, securities dealers’ other fees, and remittance handling fees. Deducted from the total remuneration.
  • Excel’s annualized return on investment calculation formula cannot calculate numbers with negative returns, but Google Sheet does not have this situation, so I personally don’t use the formula, write a piece of code to calculate it, and then pull the year in the Excel sheet.
Rate of return
Credit: Rusty Wallet

Why is the annualized return on investment important?

In addition, I think two thing is very important:

  • The law of large numbers, with the increase of investment years and the expansion of funds, it will be more and more difficult to achieve a certain annual return rate every year.
  • Investors should pay attention to their annualized investment rate of return (IRR). Why?
    • Because according to the rule of 72, you only need to divide 72 by your annualized return on investment. You can know how many years your wealth will be doubled ───we care about this number.
    • We are unlikely to get an extraordinary annual rate of return every year. It doesn’t make much sense to only look at the annual rate of return in a single year, because it is also possible that our good luck and excellent market conditions have contributed to the flames (and vice versa).
    • Conversely, if there is a year in which the annual rate of return is poor, it’s something to be wary of, but not to panic. The first thing to look at is that if the market crashed or the broader market fell sharply that year, then of course your portfolio will correct sharply. What you should do is you carefully examine whether the competitiveness of individual stocks has deteriorated significantly, and if not, don’t panic. Buffett once said, “Unless you can watch your stock holding decline by 50 percent without becoming panic-stricken, you should not be in the stock market.” The point is not to panic enough to dump all stocks because of a “short-term or temporary” drop. But if your portfolio has poor annual returns for two or three years in a row, that’s definitely not normal, and you have to take action and don’t let things go from bad to worse.

IRR calculator

You can click on this link to connect to the IRR calculator I designed, which is very simple to use and understand at a glance. For details on how to use this, see my article “IRR Calculator”.

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