A journey through the world of mutual funds, or for that matter any financial instrument will reveal that it's possible to calculate returns in many ways. Each of these returns has its particular use and implication. Let us take a look at different types of returns.
If an investment of Rs 1,000 was made five years ago and it has grown to Rs 1,300 today, then the absolute gain would be Rs 300—a 30 per cent growth on initial investment. A 30 per cent return on investment would normally qualify as good but for the fact that it was realised over five years. If you want to know how much the investment has grown on a yearly basis, you will have to take a look at the compounded annualised growth rate (CAGR).
The CAGR—also called the compounded annualised return or just annualised return—tells you the return a fund turned in every year during the five-year period, provided the gains were re-invested every year. In this case, the CAGR works out to 5.38 per cent. So, in the first year the investment would have grown to Rs 105.38. In the second year, it would have been Rs 111.04 (by adding 5.38 per cent of Rs 105.38) and so on till the fifth year when it appreciates to Rs 130. In India, mutual fund regulations require that all returns over one year should be stated in annualised terms.
Now, let us move to another type of return: year-to-date (YTD) return, which is nothing but the return since the beginning of the year till date. Suppose, if on March 1, 2003, the YTD return of a fund is 5 per cent, it means that the return is from the start of the year, i.e. January 1, 2003, till March 1. This helps us ascertain the progress of the fund in the current year. If your fund gave a 10 per cent return last year, and the YTD return by the middle of the current year is only 1 per cent, this tells you that the fund in all probability will not repeat last year's performance. On the other hand, a trailing return helps you find out the returns in the past period. For example, the weekly trailing return on March 10 is the return generated between March 3 and March 10. Likewise, the trailing one-month return on any day is the return that a fund has given in the past one month from that day. A trailing return tells you of a fund's recent performance.
While looking at these returns, it is important that you note that these are point-to-point returns. They look at only the starting and terminal values of the fund's NAV. It's important that you know how a fund performed in the intervening period. Did the fund deliver steady returns in all years or is the recent performance exemplary while the more distant ones not that impressive? In case of trailing returns, an improvement in recent performance will make returns in all trailing periods look up.
The return of a fund between two time periods shows its performance in that period only. But to know how consistent a fund is you should know how it performed across time periods. Rolling returns tell us exactly this. It averages out a fund's return for the said period. Thus, to calculate the weekly rolling return of a given period, all possible weekly returns are added and the average taken out. Rolling returns are more relevant for reviewing short-term funds. These funds invest in short-term securities and are meant to give consistent returns. It facilitates the comparison of a fund's recent performance with that of its 'average performance'. For instance, if a short-term fund's weekly trailing return is 0.05 per cent and the weekly rolling return is 0.08 per cent, it means that in the past one week, the fund performed worse than its average performance. This tells us that the fund's performance varies from time to time and it may perform better than the average in one period and worse than the average in another period.