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Why it’s Important to Calculate Your Returns and How You Can Do It

A friend recently told me over lunch that his investments had returned more than 50% last year and that his average returns over the past few years should easily be well over 20% a year.

Those are stupendous numbers and it got me thinking: When we are comparing our performances, are we even making apple-to-apple comparisons?

When we are calculating our personal investment results, it seems that everyone tends to do it slightly differently. As such, it’s possible that I would not be making any sense if I were to compare my results with my friend’s. So, is there a way to standardise our performance records so that it makes sense to others as well?

1. Do not forget about your dividends

The Straits Times Index (SGX: STI) started the year in 2013 at 3,167.08 points and ended the year at 3,167.43, gaining a total of 0.35 points. Most of us would see the index as gaining a pitiful 0.011% for the full year and thus forget about the dividends that we should have gotten for the year as well (that would likely bump up our annual return for 2013 by around 2-3%).

The fact that our dividends are deposited directly into our bank account while our shares remain in our Central Depository (CDP) account might also lead us to only focus on the capital gains from the shares when calculating our performance. But, that’s just short-selling your real investment performance.

2. Don’t do mental accounting and separate your investments when calculating returns

For investors who had invested in bus and rail transport outfit SMRT Corporation(SGX: S53) last year, it’s likely they’ll be sitting on some losses now (shares of the company started 2013 at S$1.69 and fell to S$1.16 by the end of the year).

This then creates a possible-scenario where some would pigeonhole their SMRT investment as a “position to hold for the very long-term” and thus not include losses from the company when calculating their yearly returns.

What has happened is called mental accounting where we shift a part of our portfolio into another mental account and view it separately from our core investments. It will happen to the best of us; after all, nobody enjoys seeing their personal portfolio in the red.

3. Use the Net Asset Value technique

One common way to ensure we have a good record on our performance is to calculate our investment returns using the net asset value (NAV) method. The idea is to see your portfolio as a personal mutual fund.

If you start investing with about S$ 10,000 of your capital, you can see yourself buying 10,000 shares of your own mutual fund or unit trust at S$ 1.00 per share. As your investments grow, so will your fund pricing. Furthermore, if you need to add more capital into the fund, you can do a NAV calculation and consider yourself as buying more shares at the new price. As a rule of thumb, the NAV pricing should not change when you are moving your invested capital in or out from the portfolio, only the shares outstanding will change.

Foolish Bottom Line

Using the net asset value calculation is similar to how mutual funds and unit trusts calculate their performances. If you set up the proper method of calculating your personal returns, you will be able to compare your personal “fund” with all the mutual funds in the market and see how you stack up with the professionals.

And why is that important? That’s because of opportunity costs where you might miss out on other investments with better returns while living under the mistaken notion that you’re the next Warren Buffett or Peter Lynch.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Stanley Lim doesn’t own shares in any companies mentioned.