Arithmetic and Geometric Return Calculation Examples Help

Arithmetic and Geometric Return Calculation Examples, Samples, Illustrations, Concept Help Online


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Arithmetic and Geometric Return Calculation Examples Concept

Arithmetic and geometric returns are the techniques used to calculate the yield or return on a given investment. It is very important to understand the concept of arithmetic and geometric return to have a better investment analysis.
Arithmetic return is the summation of different values divided by the number of values in an observation. Geometric return takes into consideration whether there is a rapid and unpredictable changes in the return or it is fixed.

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Arithmetic and Geometric Return Calculation Examples Explanation

Let’s take an example and understand the calculation of Arithmetic and Geometric Return.
Example: An investor is holding an asset whose annual return between 2010 and 2015 is as follows: 10%, 12%, 9%, 11%, 12% and 14%
Hence the arithmetic return would be (0.10 + 0.12 + 0.09 + 0.11 + 0.12 + 0.14)/6 = 0.1133 or 11.33%. it is showing an average return without taking into consideration the effects of extreme returns that is why arithmetic return is not widely used by investors.
Suppose you have an investment on which you earned 100% in the first year followed by a 50% loss in the second year. The arithmetic mean return will be 25% i.e. (100 – 50)/2.
If you calculate the geometric return with $1,000, you will have $2,000 at the end of year 1 which will be reduced to $1,000 by the end of year 2. Thus, you earn a return of zero over the 2-year period.

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