Expected Rate of Return Calculator
What is the Expected Rate of Return?
The Expected Rate of Return is the estimated value an investor anticipates receiving from an investment over a specific period. In financial calculator terms, this is often referred to as finding the I/Y (Interest per Year) or the CAGR (Compound Annual Growth Rate). This calculation accounts for the time value of money, providing a geometric mean of returns rather than a simple arithmetic average.
The Expected Rate of Return Formula
To calculate the annualized expected rate of return manually or via a financial calculator, use the following formula:
Where:
- Ending Value (FV): The amount you expect to have at the end of the period.
- Initial Value (PV): The current cost or amount invested today.
- n: The number of years or periods you hold the investment.
Step-by-Step Example
Suppose you invest $5,000 in a stock that you expect will be worth $8,000 in 4 years. Using a financial calculator:
- Input -5000 as PV (Present Value is negative as it represents an outflow).
- Input 8000 as FV (Future Value).
- Input 4 as N (Number of periods).
- Input 0 as PMT (assuming no dividends or interim payments).
- Compute I/Y.
Result: The expected rate of return is 12.47% per year.
Why Accuracy Matters
Calculating the expected rate of return allows investors to compare different assets—such as real estate, stocks, or bonds—on an apples-to-apples basis. It helps in determining if the potential reward justifies the risk associated with the investment. Remember that the "Expected" return is a projection; actual market performance may vary based on economic conditions and volatility.