What Is Total Return in Investment and Why It Matters

The total return is defined as the actual rate of return of any investment or a basket of investments, calculated over a specific period. The total return comes in handy when you wish to measure the performance of an investment over a specific period. It reflects two categories related to investment return: income that includes interest from fixed-income instruments and dividends, and capital appreciation that may arise from changes in an asset or investment’s market price.

Furthermore, when the total return of any investment is calculated, it is expressed as a percentage of the total sum invested. A robust measure of the overall performance of an investment, the total return informs investors about potential investments and existing investments. As you can tell, the total return is an important metric for investors, and is explored more in this article.

In simple terms, total return is a concept that describes the value of an investment over a period. Total return represents the total return on any investment or asset over a fixed timeframe, typically over a 1-year period. The metric consists of two key sources that lead to changes in income over time: yield and capital appreciation. Understanding the total return lets investors know about estimated returns from any investment or helps them keep a track of their current investment return.

• The total return is described as the actual rate of return of a given investment or a group of investments, calculated over a specific period.
• The calculation of total return may include capital gains, interest, realised distributions, and/or dividends.
• Total return is represented as the percentage of the initial invested amount.
• Total return is a solid measure of the overall performance of any investment. 

Total return can be explained as a method to calculate the total gains arising from any investment or investment source. The total return takes into account income generation and price appreciation over a predefined period, typically 1 year. Furthermore, the total return meaning may be understood as the total rate of return, commonly expressed in the form of a percentage. Consequently, the percentage helps you to compare the performance of different investments or assets, especially useful in cases where you want to compare mutual funds.
 

The way to start your calculation of total return is known as basis, or cost basis. This translates to starting your calculation with the initial buying price of any investment or asset. Hence, the cost basis is the initial purchase price of your investment. Any appreciation of your investment or asset over the cost basis is your capital gain (depreciation is your capital loss). If you buy some stock for Rs. 100 and one year later it is valued at Rs. 200, your capital gain is 100% (your investment has doubled).
 

As discussed earlier, the cost basis is just the starting point to calculate total return. After factoring the cost basis, you must also account for any other income earned from your investment or asset over time, such as interest income, dividend income, non-recurring dividends, or any capital gains generated from a fund.

There are a few formulas that can be applied in order to calculate the total return of your investment or asset over a specific period of time. Of course, since you know the period of time in which you have made an investment, the period does not factor in the actual formula. Here is the total return formula:
 

Total Return = [(Current Investment Value-Cost Basis+Distributions)/Cost Basis] x 100

Where:

• The cost basis is the initial investment you made.
• The distributions are in the form of any income you have earned from investment other than capital appreciation income.

You may have invested in mutual funds through an online platform such as the Bajaj Finance Mutual Fund Platform, or you may be comparing mutual funds to consider which one is worth  investing in. In either case, the total return formula comes in use as you may want to calculate your returns on investment, or estimate your potential returns. Let us now learn how to calculate total return through an example by using the formula:
 

Total Return = [(Current Investment Value-Cost Basis+Distributions)/Cost Basis] x 100
 

Let us assume that you purchased 10 shares of a company, at Rs. 100 per share. The total cost basis of your investment = Rs. 1,000. In a year, your shares appreciated in value to Rs. 110 per share, generating a capital gain = 10%. Say, you also received dividends of Rs. 2 per share, yielding an income of Rs. 20 from your investment. With these figures, here is how you can calculate your total return with the formula:
 

Total Return = [(Rs. 1,100 - Rs. 1,000 + Rs. 20)/Rs. 1,000] x 100
 

In this example, the total return on your investment is 12% over a 1-year period. The inclusion of the additional dividend yield helps you to answer the question, “What is total return?” and understand the concept clearly.

You might choose to invest in certain dividend stocks, but these often have low growth potential and generate minimal capital gains. If you focus solely on capital gains for your investment returns, you may overlook price increases and other ways to grow the value of stocks, securities, and assets. This can be illustrated with an example.
 

You buy shares of a certain company and the price of your shares goes up 24.5% in one year. You have gained 24.5% from the change in price of your shares. Now imagine that the company also gave you a dividend payout in the same period, and this amounted to an additional yield of 4.1%. That means that your combined return amounts to 28.6%.
 

The above example clarifies that the concept of  total return factors in the yield of other income as well (like dividend income), apart from capital gains from the investment. This helps in painting truer picture of the total return from an investment for a period of time. Hence, it is important to determine the big picture by evaluating all sources of income generated by an investment over time, and not just a single metric of performance. Alternatively, total return can also be used to analyse a company’s historical performance.

Average annual total returns are crucial in analysing mutual fund performance. If you wish to evaluate the performance of mutual funds and average annual total returns for various periods, you can determine how different funds have performed according to a benchmark, like an index.

When you analyse average total annual returns, you must note that the figures typically reflect the reinvestment of capital gains distributions and dividends. Additionally, the impact of sales charges could or could not be included.

Primarily, there are two sources of total return. These are explained below:
 

Capital appreciation

The most fundamental measure of an investment’s value and its growth is capital appreciation (positive change in an investment’s value). Whether you have invested in an asset like a property, or a stock, capital appreciation or capital depreciation may occur when the value of your investment changes. The change is essentially one that represents a shift in value from your initial asset or investment purchase value.

You can evaluate capital appreciation through net gain or by a percentage. Net gain can be assessed by multiplying any increase in value by the quantity of the investment you own.
 

Yield

The yield as a source of total return is not as apparent as capital appreciation. However, it is a source that is equally vital when calculating the total return. The yield from your investment takes on different forms, and these include:

• Interest accrued: In case your investment delivers interest that you get as cash value, then this interest income is a component of the investment’s yield.
• Dividends in cash: When a company experiences financial success, it may share this in the form of cash dividends with its shareholders/investors. Dividends deliver cash to investors but also result in a decrease in a company’s stock or its measured worth.
• Stock Dividends: Companies may give stock dividends to their investors, and this sees an increase in company stock distributed to investors according to prior share ownership.

Total return is an important concept in the investment arena, and investors who grasp it can make informed investment decisions. Furthermore, total return gives you information about the overall performance of your investment, letting you decide whether to make changes to your portfolio or remain with your investment. Total return investing is a strategy that investors follow to profit from capital appreciation gains as well as lucrative income yield.
 

If you are an investor who wants the most out of your investment basket, you may consider mutual fund investment on the Bajaj Finance Mutual Fund Platform. You get a choice of more than 1000 popular mutual funds, the features of which you can compare while deciding on the fund that suits your unique financial requirements. Additionally, online resources like calculators help you to estimate your returns so you know how much to invest and for how long. Your investment is all figured out for you in this investor-friendly space!