Table of Contents
|Arithmetic Mean Return In Corporate Finance|
What is the arithmetic mean in finance?
What arithmetic means the return is this is a part of our session on corporate finance in which we talked about the risk and return then we looked at the periodic return.
And now we will be covering the arithmetic mean return.
What exactly you mean by arithmetic means return it refers to the average return on investment calculated by adding all
The returns for sub-periods and then dividing it by the total number of periods for example, like you have invested in any particular asset,
And you have invested for five to six years, or say like seven years, and you’re getting different returns % in terms
Of your market price of that share is going high, or it’s going low whatever return you’re getting out of it.
The sum of all those returns, like the sum of the return in the first year, and the second year than the third year, and likewise for how many years you have invested,
The sum of all those returns and dividing it by the total number of years, exactly the formula of average, you must have learned the formula of average in math simple calculation.
That is what arithmetic mean return is also its average return.
Now, takes into consideration all the returns whether high or low positive or negative during a period.
In that investment period whatever returns you would be getting whether the returns were quite high, or it was quite low.
It was positive or negative arithmetic mean return is having a characteristic of taking all the returns into concentration,
But somewhat you know it’s not relevant to describe the performance of an asset and buys that this is because,
Just imagine like average return will give you an average value and knew that edge value could be dependent on the extreme values
As well, like you have got the extreme positive number, you were getting the returns like 10% 15% 16% and somewhat in between your god the return of 80%,
Your average would go high. And likewise, you are getting the returns of 10 1520, and at some point in time, your return went very low to one person.
How do I calculate the mean return?
What would happen your average would go low all because of the presence of the extreme value.
It is not relevant to describe the performance of an asset, as it can be misleading because it falls much towards the extreme values in the data set,
Then the returns of wall time, what is volatile means returns are volatile means it’s changing it’s changing a lot. That is what volatility indicates.
Let us consider an example where 10% has been provided for the last five years from an investment in equity share.
Just suppose that you have invested in any equity share, and you’ve invested in the year 2014.
Now the price of that share is changing the market price, the market price, in which the change was, would result
In the capital gain and form of an increase or the capital loss in the form of decrease and that would somehow.
Determine your return percent as well. So let’s see, in 2014, it was 65, then it went down to 54 again it went up to 70,
What is the difference between arithmetic and geometric returns?
And the same way different values were coming showing the volatility of the market, and thus the market price was fluctuating,
How we calculated the return % we derive the return person by deriving the change in the price from one period to another period,
That is from 2014 to 2015. In the first case, dividing it by the beginning price, and then multiplying it by 100 we got the return percent.
For example, we consider scenario number one was 2014 to 15, what is the return percent. So we got it by 65. Sorry 34 minus 65 divided by
The beginning price is 65 in 200, and as we derive the return % of minus 16.92% this is how we have derived all returning persons till 2018.
And what we want to find the by required to find the arithmetic mean return. That was our motive,
The overall return percent. So return % for each period we calculated that was by changing the price divided by price at the beginning and 200,
How do you calculate the arithmetic mean?
And M our formula is a simple average formula that is the sum of all individual returns by the number of observations.
Here we got our returns like minus 16.92 and then it came to 29.62% or negative 64.28%, and then a positive 80%, we divided the whole return person by the number of observations that was for four years. And that’s we get 7.105%.
This was a basic simple formula for calculating return. We’re summarizing it up guys like understand the arithmetic mean the return
Is a way to calculate the return percent when you want to evaluate an asset? But this is not used why it is not used
This is not used because this doesn’t provide you with the accurate value of your asset.
Because the average returns are mostly deviated by the extreme values present in the data set.
Somewhere if the data is extreme, it would give a more false result we would see other ways to calculate return and we would look after that.
How to rely on that and we could, we could make a comparison which one is better.