The Compound Annual Growth Rate is the annualised returns, or growth rate, of a portfolio over multiple years. CAGR focuses on the compounding effect of an investment over a particular period of time. It is a commonly used terminology in the context of the stock market in India and helps investors evaluate the performance of their investments. While assessing the growth from the initial investment amount to the current or final investment value, CAGR offers a detailed view of the effect of market fluctuations on a trading account. It is often associated with other business parameters like sales or revenue and is an important metric to understand profitability.
How does CAGR function?
CAGR functions as an annual rate that provides an accurate representation of the investment's performance over time, mitigating the impact of market volatility. Particularly crucial in the stock market in India, where the market may move significantly, CAGR offers investors a stable metric to evaluate the actual growth of their investments over time. The Compound Annual Growth Rate only considers the Last Trading Price (LTP), the initial investment value, and the duration of the investment. By providing a standardised annual growth rate, CAGR becomes an essential tool for long-term investors seeking a more reliable measure of their portfolio's success.
How to calculate CAGR?
Calculating CAGR involves a simple formula that considers the initial and final investment values over a specific period. By factoring in the time frame, the CAGR formula provides a standardised rate of return, offering easy comparison across different investment cash flows. This calculation is relevant for those managing a trading account, offering a clear and concise measure of the true growth experienced by their investments.
Here’s the formula to calculate CAGR:
CAGR = (Vfinal/Vstart)^(1/t) - 1
Vfinal is the final value of your investment
Vstart is the initial investment amount
t is the time in years
Benefits of CAGR
The benefits of leveraging CAGR in the stock market extend beyond its simplicity. CAGR's ability to smoothen out the impact of market movements provides investors with a more realistic understanding of their portfolio's growth. This metric is especially beneficial when evaluating long-term investments, offering insights beyond surface-level performance metrics. Investors can make informed decisions by focusing on the compound annual growth rate, ensuring a more stable and well-fathomed journey in the dynamic realm of trading.