The annual return of a mutual fund is the return of your investment in the fund after one year. At this time you’ll know the exact amount of increase or decrease of the value of your mutual fund after the year is up. It is an important coefficient because you always want to know if you have made profit or loss and it may help you to investigate if the performance of your fund was good or bad. If the annual return over 5 years or more is negative you can consider to take actions if it is not better to sell your mutal fund.
This return is always expressed as a percentage. For example, if you invested $2000.00 in mutual fund A and the value is after one year $2150.00. The annual return of your investment is 5% (2150.00/2000.00 X 100 = 7.50) or $150.00.
The real return of your mutual is different. There are always fees when you buy a mutual fund and these fees are not the same for every fund. For most mutual funds you are required to pay purchase fees of 2% and it is also possible you have to pay fees for the management of your mutual funds.
These costs influence the real return of your mutual fund. Inflation is another important factor when you want to calculate the real return of your mutual fund. For example: the purchase fees of your investment of a $2000.00 in mutual fund A are 2% and the rate of inflation is 3%; the annual return is 7.50% but the real return is only 2.50% (7.50%-2%-3%)= 2.50%.
It is of value to know you only have to pay the purchase fees of 2% once if you invest in a mutual fund. Suppose you sell your mutual fund after 10 years, the average purchase costs are only 0.20%. This is an important factor because mutual funds are long-term investments and the percentile of your average purchase costs lower the longer you keep your mutual funds.
If you invest in mutual funds you also receive distributions every year and this is important when you calculate the compound average annual returns. For example, if you received $80.00 distributions for your investment in mutual fund A after one year. This means 4% of your initial investment. If you reinvest these distributions year by year you can calculate your compound average annual return. These calculations can be done for 3 years, 5 years, 10 years or even more. This percentage of your average return over several years and statistics of these returns of mutual funds are essential and may help you deciding to invest in a certain mutual fund or not.
It’s good to keep in mind that the compound average annual returns of a mutual fund (for example 7%) reflects only the return of the past and is no security for a good investment in the future.
The annual return of your investment in a mutual fund is easy to calculate and shows only your return after one year. Mutual funds are long-term investments and it is more useful to pay attention to the average annual returns. This percentage is the average annual return of your investment after several years but your compound average annual return shows more the reality because it calculates also returns on returns. It is important to keep in mind that costs reduce the real return of your investment.