Online Investing: What Is an IRR?

Online Investing The IRR tool calculates the annual profit an investment delivers as a percentage of the investment’s value at the start of the year. For example, in a simple case, if you buy an investment for $100 and the investment pays $10 in dividends at the end of the year and then is sold for $95, your IRR is 5 percent.

There are actually two steps to making this calculation:

· First, you need to calculate the annual profit. You can do this by combining the $10 of dividends with the $5 capital loss (calculated as $95–$100) for a result of $5 of annual profit.

· Second, you divide the $5 of annual profit by the $100 investment value at the start of the year. $5/$100 equals 5 percent, and that’s the IRR.

By calculating an IRR, you can quantify the performance of a stock that you’ve purchased and of your investment portfolio as a whole. This is particularly true with individual stocks and brokerage accounts because you often don’t really know how your stock picks.

Your broker’s picks, and your portfolio have done and are doing relative to the market as a whole and relative to other investments. In comparison, you usually have a pretty good idea as to how well a mutual fund does on a quarterly or at least an annual basis. The fund manager will report to you on the quarterly and annual returns.

 

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