How do investment returns work? The basics

Your investment has returned 8%. But what does that actually mean for your money?

Put simply, your investment return is the gain or loss you make over a period of time. A positive return means you made a gain. A negative return means you made a loss.

If you can get to grips with how returns work, it can help you make sense of investment performance and understand your options better.

• Get updates on markets, ISA funds, pension saving and much more

Where do returns come from?

Investment returns usually come from two main sources:

• Changes in an investment’s value - if an investment rises in value, you make a gain. If it falls, you make a loss.
• Income paid by an investment - some investments pay income while you hold them. This could be dividends from shares, interest from bonds or rent from property. A dividend is a payment a company may make to people who own its shares. A bond is a type of loan to a company or government.

Add the change in value to any income paid and you get the total return. This can give you a clearer view of how an investment has performed.

For example, if an investment rises by 5% in value and pays 2% in income, its total return is 7%, before any costs or charges.

How are returns calculated?

There are several ways to calculate investment returns. One common measure is return on investment (ROI), which compares your gain or loss with the amount you put in.

ROI is usually shown as a percentage:

ROI (%) = gain or loss ÷ initial investment cost × 100

• Here’s a simple example:

You invest £1,000. After one year it grows to £1,100. You’ve made a £100 gain.

£100 ÷ £1,000 × 100 = 10%

Your ROI is 10%.

What affects investment returns?

Investment returns can be affected by many factors. Some relate to wider markets, while others are linked to the investment itself.

• Market and economic conditions - interest rates, economic conditions and how confident investors feel can all affect investment performance.
• The investment itself - a share price, for example, may be affected by a company’s profits, sales and what investors expect from it in future.
• Income and exchange rates - income can add to your total return. If you invest overseas, changes in exchange rates can also raise or reduce your return when you convert it back into pounds.
• Costs and inflation - fees and charges reduce the return you keep. Inflation means prices rise over time, so your money buys less. An investment can make a positive return but still lose buying power if it does not keep up with inflation.

Returns are rarely the same every year. An investment may rise one year and fall the next. So, an average or projected return is not a promise of what you will receive each year.

What is a good rate of return?

There’s no single rate that counts as a good return for every investment. What looks reasonable depends on the type of investment, the risk you take, inflation and how long you plan to invest.

When you compare investments, do not look at the return alone. A higher possible return usually comes with more risk. It can be more useful to ask whether the possible return matches the level of risk and your goals.

The key thing to remember about returns

Investment returns can help you understand how an investment has performed, but the headline percentage does not tell the whole story.

Look at where the return came from, how much risk was involved, what you paid in costs and what inflation did to the value of your money. Also think about how long you were invested. Together, these points give you a better view of what the return means.

Important information - investors should note that the views expressed may no longer be current and may have already been acted upon. Tax treatment depends on individual circumstances and all tax rules may change in the future. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to one of Fidelity’s advisers or an authorised financial adviser of your choice.