What is the first thing that every Indian sees before investing in a mutual fund? We look at its returns. Some of the mutual funds might surprise you with their skyrocketing CAGR of 30-40% but it doesn’t tell the true picture.
That’s why we should go through different sorts of returns and find out which one you should be looking for while deciding on mutual funds.
Here’s a detailed comparison of CAGR, XIRR and Rolling Returns.
Compound Annual Growth Rate (CAGR)
CAGR, or Compound Annual Growth Rate, is a key metric for assessing investment returns.
CAGR calculates the average annual return by considering the initial investment, final value, and elapsed time.
It offers ease in comparing returns across different asset classes. Thus, you will mostly see mutual funds using CAGR to display their returns.
What’s the issue?
The compound growth rate relies on a steady growth rate throughout, disregarding real-world fluctuations caused by market conditions and external factors.
Hence CAGR is fine when you are calculating lump sum investment returns because it can calculate point-to-point returns.
Then what should one do for SIPs?
Extended Internal Rate of Return (XIRR)
XIRR (Extended Internal Rate of Return) is a vital tool that helps investors figure out how well their investments are doing.
It considers all the money coming in and going out, like dividends and capital gains and shows the overall returns over a specific time.
When dealing with Systematic Investment Plans (SIP), where there are multiple investments with different prices and periods XIRR makes it easier for investors to calculate returns and simplify the process.
You can check the XIRR of your SIPs as well using an XIRR calculator.
An issue with XIRR is that it requires accurate and complete cash flow data, including the date and amount of each cash flow otherwise, it can affect the accuracy of the XIRR calculation.
Rolling Returns
To be honest, rolling returns are one of the best when it comes to choosing a fund.
They are used to check how well an investment did over a specific period, but you do it continuously or regularly.
It’s similar to seeing the performance of a fund over, let’s say, 5 years, but you calculate it for each day within a longer period, like 2010 to 2024. This way, you can see the range of returns if you invested on any day during those years.
Rolling returns help you understand what returns a fund has given over the time you’re interested in, and it gives you an idea of the probability of getting similar returns in the future.
For example, here is the rolling return analysis for a midcap fund which shows that staying invested for a longer period had higher chances of getting decent returns.
Disclaimer: Investing in mutual funds is a personal choice. Kindly make sure to look at other parameters before investing. The 1% Club News team recommends consulting a SEBI-registered investment advisor.
