Absolute and annualised returns

I often read this statement in your answers: 'Returns up to 1 year are absolute and over 1 year annualised'. What does it mean?
-Gopu Bala Show Reddy

'Annualised' returns are simply the annual gains that an investment has earned over a specific period of time. The difference between absolute and annual returns can be best explained with an example. If an investment of Rs 1,000 grows to Rs 1,300 over five years, then Rs 300 is an absolute gain with 30 per cent growth. This 30 per cent return is absolute return.

A 30 per cent return on investment normally qualifies as good, but it has been realised over five years.

Annual (annualised) returns show the average gains that the investment made each year in this five-year period, if the gains were reinvested every year. In this case, the annual returns work out to 5.38 per cent. Assuming that the money grew at a constant rate, the investment of Rs 1,000 would have grown to Rs 1,053.80 by the end of first year. In the second year, it would be Rs 1,110.50 (by adding 5.38 per cent of Rs 1,053.80) and so on till the fifth year until it appreciates to Rs 1,300.

All investment instruments at Value Research state returns of less than a year in absolute terms, and over one year as annualised percentage.

This article was originally published on August 06, 2013.