Financial experts use the “CAGR” to indicate the profitability of a specific mutual fund available on the market because not all mutual funds can provide you with the same results. CAGR also aids investors in making crucial investment choices.
This article covers:
- CAGR Meaning In Mutual Fund
- CAGR Formula in Mutual Fund
- How to Calculate CAGR in Mutual Fund
- Difference Between Annual Return And Absolute Return
- What is CAGR In Mutual Fund- Quick Summary
- What is CAGR In Mutual Fund- FAQ
CAGR Meaning In Mutual Fund
The full form of CAGR in Mutual Funds is Compound Annual Growth Rate. It is one of the most common terms you can come across while investing in mutual funds. With the help of CAGR, it is possible to measure the year-over-year return earned on your investments that you have put into a mutual fund scheme.
CAGR provides a more accurate representation of investment performance over time, while absolute return only considers the overall return earned between two points in time, without regard to the time taken to earn it.
To put it in simpler terms, you will be able to know how much wealth you will be able to accumulate by investing in a mutual fund scheme in a given period of time with the help of CAGR. Moreover, CAGR offers the most accurate results for investment portfolios, independent assets, and any kind of investment that offers long-term returns.
Let us assume that you have made an investment of Rs.100000 into the XYZ mutual fund scheme at the beginning of the year 2021. At the end of the year, your total investment has become worth Rs.300000, which means you have gained a whopping 200% return on your investment.
Similarly, in the very next year, your investment has not been able to perform well, and you lost 50% of your investment. Currently, your total investment worth is Rs.150000. Due to this up and down in the market, it becomes confusing to determine what is the actual return you are receiving from your investment. Also, the average annual return will not give you the appropriate results, and this is where CAGR comes into the picture.
CAGR Formula in Mutual Fund
CAGR Formula = (Ending balance/ Starting balance)1/n – 1
- The term ‘n’ denotes the total number of years you have invested the money in the mutual fund.
- The ending balance signifies the total value of the investment after the investment period ends.
- Starting balance is your initial investment amount deposited in the mutual fund scheme.
CAGR puts equal emphasis on the time period your money has been invested in a particular investment scheme. If we ignore the factors like volatility, then you will be able to receive a perfect estimate of how much your investment is going to grow.
CAGR is an excellent method for taking into consideration how an investment has changed over time. Furthermore, you can observe how it behaves with respect to a particular spectrum. This is an excellent approach to finding out how your funds were used.
How to Calculate CAGR in Mutual Fund
To evaluate the CAGR of an investment,
- Take the overall value of the investment at the end of the investment period and divide it by the value of the investment at the beginning of the investment period.
- Multiply the result by the number of years and raise the exponent to one.
- The result should be reduced by one.
- The answer can be converted into a percentage by multiplying it by 100.
In the formula of CAGR, time is an important factor, and it also focuses on the duration of time you have been investing in a particular mutual fund investment scheme. If we subtract the volatility part of an investment, then CAGR would offer you the exact rate with which your investment will be growing.
To understand how the CAGR works, let us check out an example:
Suppose Samuel has invested in a mutual fund scheme in the year 2017, and his initial investment was Rs. 50000. After going through appreciation for five years, the final value of his investment becomes Rs. 200000.
Therefore, if you want to check out the growth rate of your investment for these five years then you need to find out its CAGR. If we put all the above-mentioned details into a CAGR calculator, then the Compound Annual Growth Rate for the last five years would be 31.95%.
Difference Between Annual Return And Absolute Return
The main difference between annual return and absolute return is that annual return is calculated as a percentage of the initial investment over a yearly basis, while absolute return measures the actual monetary gain or loss of an investment over any time period.
Annual return is useful for comparing the performance of different investments on an annual basis, while the absolute return is useful in evaluating the overall profitability of an investment.
For example, if an individual invests Rs. 10,000 in a mutual fund and after 5 years, the investment value is Rs. 15,000, then the absolute return would be Rs. 5,000, which is a 50% increase in investment value. However, to calculate the annualized return, we need to take into account the duration of the investment, which in this case is 5 years. Using the CAGR formula, the annualized return would be approximately 8.68%.
| Basis | Annual Return | Absolute Return |
| Calculation | Calculated on a yearly basis as a percentage of the initial investment | Calculated as the difference between the initial investment and the current value |
| Time period | A single year or multiple years | Any time period |
| Measure of Gain | Measures the percentage increase in value of an investment over a year | Measures the actual monetary gain or loss of an investment |
| Importance | Useful in comparing the performance of different investments on an annual basis | Useful in evaluating the overall profitability of an investment |
| Limitations | May not provide a complete picture of the investment’s performance over a longer time period | Does not consider the time period over which the gain was achieved |
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What is CAGR In Mutual Fund- Quick Summary
- CAGR stands for Compound Annual Growth Rate and it is used to measure the year-over-year return earned on investments in mutual funds.
- The three primary things you will need in order to find out the CAGR of investment are starting balance, ending balance, and the total years of investment.
- To calculate CAGR, divide the ending value of the investment by its beginning value, take this ratio to the power of 1/n, where n is the number of years in the investment period, and subtract 1 from the result to get the annualized rate of return, expressed as a percentage.
- CAGR puts equal emphasis on the time period your money has been invested in a particular investment scheme.
- CAGR is an excellent method for taking into consideration how an investment has changed over time and for finding out how your funds were used.
- CAGR provides a more accurate representation of investment performance over time, while absolute return only considers the overall return earned between two points in time, without regard to the time taken to earn it.
What is CAGR In Mutual Fund- Frequently Asked Questions
1. What is the CAGR full form in Mutual Fund?
The full form of CAGR is Compound Annual Growth Rate. It is a term that is widely used in the mutual fund industry. With the help of CAGR in mutual funds, investors will be able to calculate the amount of wealth they will be generating through mutual fund investments.
2. What is the average CAGR of mutual funds?
On average, equity mutual funds have been able to produce a 14.50% CAGR in the last five years. On the other hand, large-cap mutual funds have been able to successfully generate a CAGR of 13.36% in the last 10 years.
3. What is a good CAGR for mutual funds?
A good mutual fund can offer 15% to 25% over a period of 5 years or more. If the mutual fund schemes offer returns that are not able to beat inflation, then it will be better to try investing in other schemes.
4. Is a CAGR of 7% good?
No, 7% CAGR is not a good enough return for any kind of investment. In fact, you should not invest in any financial instrument that offers less than 8% CAGR. For a considerably stable income, you should invest in companies that can offer you at least 8% to 12% CAGR.
5. Is higher CAGR better?
Yes, a higher CAGR is always better than a lesser one. With the help of CAGR, companies can determine what kind of returns they can expect from their investments and make plans for their financial future accordingly.
6. Which company gives the highest CAGR in India?
There are multiple companies available in India through which investors can generate huge returns because of their higher CAGR percentage. Some of the companies that have showcased good CAGR percentages in the last 10 years or so are:
- Page Industries
- Kama Holdings
- Tata Elxsi
- Cera Sanitary
- Indiamart Intermesh Ltd.
- LTI Mindtree
- Solar Industries
- Alkem lab
7. Is CAGR important for investing?
Yes, CAGR is an extremely important term for every investor who is trying to build their wealth through long-term investments. It is undoubtedly one of the best formulas with which investors can find out how the investments have operated in the market over time.
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