One of the many essentials when investing is determining whether it’s all worth it by asking yourself the greatest question, “How much money did I make?” There are investors that do not do this basic stuff, maybe because they simply do not know how to or they do not know its importance.
In this article you both can uncover the importance knowing the basics of ROI as well as being able to compute it.
What is ROI?
This is a known metric or performance measure to gauge a certain investment’s profitability. ROI can help you sort out investments that are profitable and make a comparison with your other investments, too. It is just easy to compute and interpret, thus, you can apply it to a wide array of personal investments. It can aid you in making wiser decisions and moves.
Why knowing ROI is important?
ROI is important in knowing the efficiency on your investments. It aims to measure the amount of return in comparison with the investment’s cost. An investor cannot really assess his investments (i.e. stock, bond, rental property, collectible, option, etc.) without calculating for this one. It can give a concrete signal to any investor about the viability or practicality of a specific investment.
How to compute ROI?
When calculating ROI, the return of a particular investment is divided by the cost of the investment. The formula goes like this:
ROI = [(Gain from investment – Cost of investment) / Cost of investment] x 100
Where, the gain of investment represents the proceeds acquired from the sale of the investment.
ROI = (Net profit / Cost of investment) * 100
The results can either give you a plus or a minus. A plus (a.k.a. positive result) means profit while a minus (a.k.a. negative result) indicates a loss.
What affects ROI?
With the given formula, there is one factor that does not appear in the calculation that can greatly affect ROI. Truly, it is a performance measure that has a simple calculation. Investors should know that TIME is one major factor that must be considered. An investment might indicate a 1,000% ROI and another one reflects a 50% ROI. By merely looking at the figures, the investment with a 1,000% ROI is alluring; however, one must be able to consider the influence of time. What if the first investment takes 25 years to flourish whereas the second one just needs a month to pay off? Hence, time periods must be strongly considered, too.
ROI is a powerful and useful tool to assess your investments. It does not mean that an ROI gives you a positive result and you can stay complacent. It can still falter in the future. Expected ROI are not useful since there is no data to back it up.
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