How to use the Guide to CAGR (Compound Annual Growth Rate)
Compound Annual Growth Rate (CAGR) is the "magic number" that tells you the average annual growth rate of an investment over a specific time period. Unlike "Absolute Return", which just sees the start and end, CAGR accounts for the effect of compounding, giving you a smoothed annual rate of return.
📉 Volatility Masking
CAGR is a smoothed metric. It describes the growth as if it had grown at a steady rate every year. In reality, investments go up and down. A CAGR of 10% doesn't mean you got 10% every single year.
📊 CAGR vs Average Return
If a stock goes down 50% one year and up 50% the next, "Average Return" says 0%. But CAGR reveals you actually lost 25% of your value. CAGR is the honest metric.
🏆 Benchmarking
Use CAGR to compare your mutual fund's performance against a benchmark index (e.g., Nifty 50 or S&P 500) over 3, 5, or 10 years to see if you are beating the market.
The Formula
CAGR vs Average Return: The Math Trap
| Year | Portfolio Value | % Change |
|---|---|---|
| Start | $100 | - |
| Year 1 | $50 | -50% |
| Year 2 | $75 | +50% |
Arithmetic Average: (-50 + 50) / 2 = 0% (Misleading)
Actual CAGR: ($75 / $100)^(1/2) - 1 = -13.4% (The Truth)
What is a "Good" CAGR?
6% - 8%
Safe Debts / FDs
12% - 15%
Good Equity Funds
20% +
High Risk / Startups