Expected Return

What Is It?

Expected return is the return (profit or loss) you anticipate receiving from making an investment (i.e. investing with SmartWeath) over a certain period of time, based on past returns generated by the investment (or similar investments). To determine the expected return, the chance of different potential results occurring is multiplied by those results expressed as a percentage. Typically, equity (stock) markets have higher expected returns than bond markets over longer periods of time, along with higher expected risk.

Expected return can be calculated as follows: Say an investment has a 40% chance of losing 15% and a 60% chance of gaining 25%. The expected return for this investment would be 40% x -15% + 60% x 25% = 9%.

The expected return of a portfolio can also be calculated. To do so, the weighted average of the expected returns from each individual security in a portfolio is computed. The following example shows how a portfolio’s expected return is computed:

Consider a portfolio with three ETFs:

ETF A: $80,000 invested and an expected return of 12%

ETF B: $200,000 invested and an expected return of 8%

ETF C: $120,000 invested and an expected return of 11%

The total portfolio value is $400,000, and the weights of the different holdings are 20%, 50%, and 30%. The expected return of the portfolio would be: (20% x 12%) + (50% x 8%) + (30% x 11%) = 2.4% + 4% + 3.3% = 9.7%

What Is It Used for?

Expected return is used to determine a portfolio’s projected gains over a specified period of time. It helps provide an investor with insight into how feasible their investment goals are, given the expected rate of return. It is often used to help investors plan for major life goals such as retirement or purchasing a home.

If a projected expected return shows that an investor will fall short of achieving their financial objectives, they can take steps to remedy the situation. These can include actions such as investing more money, investing more aggressively, or changing their objectives.

Other Considerations

It should be noted that expected return is not guaranteed – it is based on historical data and is used as a means of estimating if a particular investment is likely to have an outcome that is positive or negative. Given that past results do not necessarily predict future results, expected return should be considered only as an estimation method, not a precise prediction of future investment returns. Essentially, expected return is simply an average of potential future returns based on past returns.