cagr stands for compounded annual growth rate. it is also called annualized return . it measures how much an investment grew each year, on average, over a specific period .
the key difference from absolute return is that cagr accounts for time . a 50% absolute return over 5 years and a 50% absolute return over 2 years look the same. cagr shows the difference.
how cagr works
cagr assumes the investment grew at a steady rate every year to reach its final value . it smooths out the ups and downs.
the formula is simple :
cagr = (final value / initial value)^(1/n) – 1
where n is the number of years.
example. ₹1 lakh invested in a fund. after 3 years, the value is ₹1.4 lakh .
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absolute return: 40%
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cagr: 11.9% per year
the cagr is lower than the absolute return divided by 3 because of compounding . the 11.9% accounts for the effect of earning returns on returns.
cagr vs absolute return. when to use each
| metric | what it shows | best for |
|---|---|---|
| absolute return | total percentage change | periods less than 1 year |
| cagr | annualized growth rate | multi-year investments |
a fund returning 85% over 3 years has a cagr of roughly 23% . the cagr allows comparison with other funds, inflation, and benchmarks on a consistent annual basis .
cagr vs xirr. which one to use
cagr is designed for lump sum investments. one investment at the start. one redemption at the end .
xirr is designed for sip investments. multiple investments at different times . xirr accounts for the timing and value of each cash flow .
| feature | cagr | xirr |
|---|---|---|
| useful for | lump sum investments | sips or multiple transactions |
| timing of cash flows | not considered | considered |
| ease of calculation | simple | slightly complex |
using cagr for sip investments is misleading. the last instalment had only a month to grow. the first had years. xirr accounts for this difference .
what a good cagr looks like
a good cagr is one that consistently outperforms the benchmark and category peers over the long run .
over 10 years, different categories have delivered different cagrs :
| category | 10-year cagr |
|---|---|
| small cap | 16.94% |
| mid cap | 16.02% |
| multi cap | 14.88% |
| flexi cap | 13.47% |
| large cap | 11.74% |
cagr should not be viewed in isolation. it is one tool among many. rolling returns and risk metrics provide a fuller picture .
frequently asked questions
1. what is cagr in mutual funds ?
cagr is the compounded annual growth rate. it measures the average annual return of an investment over a specific period .
2. how is cagr different from absolute return ?
absolute return ignores time. cagr accounts for time and compounding. absolute return shows total growth. cagr shows annualized growth .
3. can cagr be used for sip investments ?
no. cagr assumes a single investment at the start. for sips, xirr is the correct metric .
4. what is a good cagr for a mutual fund ?
a good cagr consistently beats the fund’s benchmark and category peers over the long term. historical averages vary by category .
5. does cagr guarantee future returns ?
no. cagr is a backward-looking measure. it shows past performance. it does not predict future returns .
