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Thursday, June 30, 2005

How to Calculate Annualized Rate of Return

I set up the Prudent Portfolio with $100,000 nearly three weeks ago. As of this morning it had an account balance of $102,127, for a total gain of $2,127. If that were the gain for the year, it would be a 2.13% return for the year. But, it's not. It's the return for 17 days. So, how do you annualize that number to get a rate of return for a year? That's simple enough. Here's the formula:

((1 + Rate of Return)1/N) - 1

N = Number of years

In this example, since we are only 17 days into the year, you divide 17 by 365 to get .0465753

The Rate of Return is 2.13% or .0213

So, the formula looks like this:

((1 + .0213)1/.0465753)-1


1.5722717 - 1

.5722717 or 57.23%

Looks pretty good, doesn't it? Well, don't count on it staying that high for long. The closer you get to a full year, the smaller that number will be (unless you are one genius of a stock picker!) You can play around with the numbers to see what I mean.

Now I'm open to any questions and comments you might have.

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