Portfolio return represents the net gain or loss of an investment portfolio relative to its size over a specified period, typically one year. This metric is influenced by the portfolio's investment strategy objectives and the risk tolerance of its intended investors.
Whether you are a beginner to investments or a seasoned investor, you may have more than one asset in your portfolio. While you may know the returns of each asset class, you need to also know how they perform together. This is where the portfolio return becomes important. It helps you assess the overall performance of your portfolio. Together with the portfolio risk, the portfolio return is a crucial metric that helps investors understand how well or poorly their investments are performing.
In this article, we delve into what the portfolio return is, how it is calculated, and why it is relevant.
What is the portfolio return?
Portfolio return represents the overall gain or loss achieved by an investment portfolio comprising various assets. The returns align with the portfolio's stated investment objectives and cater to the risk tolerance levels of the intended investor audience.
Each asset or asset class in a portfolio may perform differently. Some may be significantly profitable, others may result in steep losses, while yet others may deliver small gains or incur minor losses. The portfolio return gives you an overview of the total returns from all of these assets. In other words, it is the net gain or loss from all your investments taken together. The primary goal is to ensure that your portfolio return remains positive.
Portfolio Return Formula
The portfolio return formula essentially considers the weight of each asset in the portfolio as well as the returns from each asset. This is the formula:
Portfolio Return = Σ(wi x ri)
Here, wi is the weight of an asset in the portfolio, and ri is the return from that asset.
How to calculate portfolio return?
Now that you know what the portfolio return formula entails, let us look into the portfolio return calculation process.
Step 1: Identify the individual assets in the portfolio.
Step 2: Find the weightage for each asset in the portfolio. This is the ratio of the amount invested in that asset to the total amount of investments in the portfolio.
Step 3: Identify the returns from each asset in the portfolio. This includes all kinds of returns, including capital appreciation, interest, dividends and the like.
Step 4: Find the product of each asset’s weightage and returns.
Step 5: Add the products for each asset obtained in the previous step. This will give you the portfolio returns.
Examples of portfolio return calculation
Since you have seen the portfolio return formula and the steps involved in the portfolio return calculation process, you can better understand the following examples.
Example 1
Consider the portfolio return calculation if you know the returns percentage directly, as shown in the following table.
Asset Type |
Amount Invested (Rs.) |
Weightage (wi) |
Returns (ri) |
Σ(wi x ri) |
Shares |
1,50,000 |
0.75 |
14% |
10.50% |
Bonds |
50,000 |
0.25 |
8% |
2% |
Total |
2,00,000 |
Portfolio Returns |
12.50% |
|
Example 2
Sometimes, you may not know the percentage of returns. Instead, you may know the initial investment value and the final market value of the asset during a period. In that case, you can find the excess returns earned and divide it by the initial investment amount to find the percentage of returns earned. You can then compute the portfolio returns, as shown below.
Asset Type |
Amount Invested (Rs.) |
Final Market Value (Rs.) |
Gains or Losses (Rs.) |
Returns (ri) |
Weightage (wi) |
Σ(wi x ri) |
Shares |
2,00,000 |
2,70,000 |
70,000 |
35% |
0.67 |
23.45% |
Bonds |
1,00,000 |
1,09,000 |
9,000 |
9% |
0.33 |
2.97% |
Total |
3,00,000 |
|
|
Portfolio Returns |
26.42% |
|
Example 3
In this example, we will examine how you can account for additional income from an asset other than capital appreciation. You need to include these incomes in the returns to find the individual return rate for the asset. The rest of the portfolio return calculation remains the same.
For instance, say you earned dividend income from shares and interest income from FDs. This is how the portfolio return will be calculated in this case.
Asset Type |
Amount Invested (Rs.) |
Other Income Earned (Rs.) |
Final Market Value (Rs.) |
Gains or Losses (Rs.) |
Returns (ri) |
Weightage (wi) |
Σ(wi x ri) |
Shares |
2,00,000 |
10,000 as dividend |
2,70,000 |
80,000 |
40% |
0.50 |
20% |
FD |
1,00,000 |
8,000 as interest |
1,00,000 |
8,000 |
8% |
0.25 |
2% |
Gold |
1,00,000 |
— |
1,20,000 |
20,000 |
20% |
0.25 |
5% |
Total |
3,00,000 |
|
|
|
Portfolio Returns |
27% |
|
The practical relevance of portfolio returns
By knowing the expected returns from an asset and how it could affect your portfolio returns, you can decide which assets to invest in to fulfil your financial goals. You can also calculate the expected portfolio returns in different scenarios by changing the weightage of various assets. This will help you identify the most optimal asset allocation pattern so you can obtain the potential portfolio returns that you seek.
In addition to this, you can also calculate the historical portfolio returns and assess which assets have outperformed or underperformed. This will, in turn, help you decide if you need to rebalance your portfolio and redeem some investments in favour of others.
The impact of portfolio returns on investors
The portfolio return impacts investors in many material ways, as outlined below:
- Benchmarking investments: You can compare your portfolio return against a benchmark’s returns to assess the performance of your asset basket and gauge its success.
- Risk assessment: You can also compare the portfolio return with the portfolio risk to assess if the returns justify the risk taken.
- Cash flow planning: Since the portfolio return calculation also accounts for cash flows from dividends and interest, it helps you plan for these additional income sources smartly.
- Financial planning: Knowing the portfolio return makes overall financial planning easier since it helps you assess if your portfolio is performing as required.
Portfolio Returns and Rebalancing
A common approach among investors is to evaluate their portfolios annually and make necessary adjustments to stay aligned with their financial goals.
For instance, if an investor experiences significant growth in a particular fund, such as a growth-oriented investment, they might choose to shift a portion of the gains into a value-focused fund. This strategy anticipates a potential market shift where other investors may favor value investments in the future.
Key takeaways
- A portfolio is a mix of different types of assets like equity, debt instruments, gold, real estate and other assets.
- The portfolio return tells you how much you have earned from the mix of assets that you have invested in.
- To calculate the portfolio return, add the products of the weightage of each asset in the portfolio and the returns from each asset.
Conclusion
A well-balanced portfolio should ensure that the risks taken justify the portfolio return. Diversification is key here because it minimises risk and optimises potential returns. One of the easiest ways to diversify your portfolio is by investing in mutual funds.
You can find suitable mutual fund schemes for your portfolio on the Bajaj Finserv Mutual Fund Platform, which has 1,000+ schemes to offer. What’s more, you can look into the composition of each scheme, compare mutual funds and their many features and find the funds that align best with your requirements. The mutual fund calculator on the platform is also a game changer because it helps you determine the ideal amount to invest in your preferred scheme.
