Investments are made with the expectation of profits in the future, and for a sizeable retail populace, mutual funds are the way to go about it. Given the sheer variety of funds available to invest in, how are returns calculated for a particular investment and how to measure fund performance?
Measure fund performance is one of the popular ways to compare two different investments. Changes to your allocation in those funds for a given portfolio can be made based on the historic fund performance. But there are only a few standard metrics to check the performance of all kinds of mutual funds. There are three performance metrics commonly used:
- Annual returns
- Trailing returns
- Rolling returns
Each of these conveys unique insights into the underlying investment. Let’s take a look at annual vs trailing vs rolling returns.
Annual Returns:
Annual returns are, as the name suggests, returns over a calendar year. This is calculated over the calendar year from January to December. The process to calculate the annual returns is fairly simple – the difference between the NAV of the fund on 01 Jan, minus the NAV of the fund on 31 Dec of a year, divided by the NAV of the fund on 01 Jan x 100.
Annual Return = NAV on 31 Dec – NAV on 01 Jan / NAV on 01 Jan x 100
Let’s take an example:
NAV on Jan 01, 2021 Rs. 50
NAV on Dec 31, 2021 Rs. 100
Annual Return = 100 – 50 / 50 x 100 = 100%
The annual returns are a great way to understand the consistency of the fund on an annual basis. It also gives a great insight into the fund’s performance during different market conditions like festival run-ups, financial budget and other major happenings around the year. The disadvantage of looking at annual returns is that it gives a very myopic view of the fund’s performance.
Trailing Returns:
Trailing returns, also called point-to-point returns, are a measure of the performance of an investment over a specific period of time. Trailing returns are calculated by taking the current value of the investment and subtracting its value at the beginning of the period, then dividing that number by the value at the beginning of the period.
Trailing Returns (%) = [ (Current NAV / Starting NAV) ^ (1/Period) ] – 1
Let’s take a practical example,
NAV on Jan 3, 2022= 50
NAV on Jan 3, 2010 = 25
2-year Trailing return = [ (50 / 25) ^ (1/2) ] – 1 = 41.42%
Trailing returns is a good way to measure the fund’s performance between two dates. As opposed to the annual returns of a fund, trailing returns over, say, the last 10 years give an insight into the fund’s performance over a longer period of time and make it easy to compare. If annual returns are calculated for this fund over the last 10 years, it is not easy to compare and conclude, based on each year’s returns, which fund has outperformed the other or the benchmark.
On the downside, the trailing returns show returns just between 2 dates – it does not give insight into the volatility, or performance of the fund at certain milestones in the considered period. Look below at the trailing returns of the Sensex over 10 years at different periods, you will be able to appreciate the variance in returns.
| Investment date | Withdrawal date | Tenure | Average Annual Return |
| Oct 30, 2001 | Oct 30, 2011 | 10 years | 19.5% |
| March 30, 2010 | March 30, 2020 | 10 years | 5.3% |
| March 30, 2011 | March 31, 2021 | 10 years | 9.8% |
| June 30, 2008 | June 30, 2018 | 10 years | 10.2% |
| May 30, 2008 | May 30, 2018 | 10 years | 7.9% |
| February 1, 2009 | February 1, 2019 | 10 years | 14.9% |
(ET Money, n.d.)
Rolling Returns:
Rolling returns, also known as rolling period returns, like trailing returns are calculated over a specific period, but at regular intervals, not just endpoints. Simply put, it is like calculating trailing returns on a daily/weekly/monthly basis.
Rolling returns are often calculated (measure fund performance) using a rolling time window, such as rolling three-year returns or rolling five-year returns. What this means is, 3-year returns are calculated every day of the considered period of investment. What this gives us is the expected returns for a period of investment in that fund.
For example, the NIFTY 500’s
| Return Consistency (% of times) | ||||
| Investment Period | Less Than 0% Return | 0-8% return | 8-12% return | More than 12% return |
| 1 year | 22.30% | 14.60% | 8.50% | 54.60% |
| 3 years | 10.70% | 20.50% | 12.90% | 55.90% |
| 5 years | 1% | 17.10% | 20.90% | 61% |
| 7 years | 0% | 6.10% | 24.50% | 69.40% |
| 10 years | 0% | 4.40% | 29% | 66.60% |
| 15 years | 0% | 0% | 10.60% | 89.40% |
(ET Money, n.d.)
Rolling returns are better than trailing returns when it comes to understanding the probability of earning a certain return. For example, it is easy to conclude that if one was to remain invested for 5 years or more, the chances of negative returns are almost 0. Also, almost 90% of people staying invested for the last 15 years would have returns greater than 12%.
In conclusion, all these 3 metrics are useful for concluding different things. While annualized returns are good to understand the consistency of the fund year on year(Measure fund performance), trailing returns are a great way to see the compounding effect of these investments over a period of time. Rolling returns help to map out the volatility of the fund on a day-to-day basis between periods considered and help in understanding the probability of earning percentage returns over a period of time.