Annualised Return or Internal rate of return (IRR) is used on your Dashboard to show how an investment has performed over time.
After all, knowing that your investment has doubled (or grown 100%) is meaningless unless you know over what period this took place -- doubling over 5 years indicates that it has grown at a rate of 14.86% a year, doubling over 10 years means that it has grown at 7.17% a year, while doubling over 15 years means it has grown at only 4.73% a year.
SIMPLE % GAIN: This is the simple percentage gain of your holdings over the total investment amount, not annualized as in the IRR calculation. Simple % return works over any time period. It simply indicates the change from one point in time to another.
For an investment that lasts exactly one year, the simple % return is the same as the Internal rate of return (IRR) which we will compute below.
ANNUALISED % GAIN: We use the internal rate of return (IRR) to calculate the percentage return on an annualized basis regardless of the actual investment period. It doesn't matter whether you hold an investment for one year, five years, or even fifty years - the internal rate of return will tell you the annualized percentage returns of that investment over any period of time. To get an accurate picture of your performance over the long-term or against benchmarks like the Nifty, the internal rate of return is more informative because it describes the performance in consistent, annual terms
HOW CAN YOU COMPUTE ANNUALISED GAINS? The easiest way to do these challenging calculations is in Excel using the XIRR function – you will need to have the investment dates, invested amounts and current value handy. The screenshots below show the cash spent and cash returned for some sample investments. We need all the cash outflows and inflows to help determine our internal rate of return (lookup XIRR under Help in Excel for how to use this function)
Annualised % gains is the correct way to look at your gains over periods > 1 year.
WHICH ONE SHOULD YOU USE? At the end of the day, each calculation is useful in its own way. To monitor your performance over the long term or against benchmarks like the Nifty, the annualised return is more informative because it describes the performance in consistent, annual terms. However, for determining your gains over a shorter period or understanding your cash-on-cash returns, the simple % return is easier to calculate and gives you everything you need. Simple % gains works better in the short-term for investments such as Equity funds that have more ups and downs. Annualised % gains should be used for almost everything else, and over all time periods more than a year.