When investing in anything, your intention is to accrue passive income in the long run. Depending on the details of your choices and the state of the market, your return on investments can vary substantially. Understanding the importance of rate of return is a crucial part of any financial commitment, no matter how big or how small.
Definition
Investors and financial counselors use the term “rate of return” to discuss the gain or loss on an investment over a period of time. Imagine that you bought a home for $500,000. After 50 years, your house is worth $1 million dollars — a pretty good investment, right? Your total rate of return would be 100%. The higher the rate of return, the better the investment. As an investor, also consider the rate of inflation, which can work against the financial gain from investments. In 2015, the rate of inflation has been negligible so far, but at other times in our country’s history, it has made a real impact on the rate of return. You always want to make sure that your rate of return is greater than the rate of inflation — if it’s not, you may lose money over time.
Applications
Rate of return calculates the strength of an investment as a financial choice. Potential investments are not just limited financial securities such as stocks and bonds but also include real estate, jewelry, and fine art. Essentially, an investment is anything that can gain value over time. Some would argue, for example, that investing in your education with a bachelor’s or master’s degree could yield a high return on investment in an increased salary over time. What are your current investments?
Return on Financial Securities
The rate of return on financial securities will vary tremendously based on how and where you choose to put your money. When investing in the stock market, greater risks will often lead to a higher rate of return. More conservative investments, on the other hand, will offer lower rates of return but greater security. If you are looking for low-risk options, consider committing some of your assets to CDs, money market funds, or government-backed investments like savings bonds, municipal bonds, and TIPS (Treasury Inflation Protected Securities). Those of you looking for middle-risk options can turn toward dividend-paying stocks and mutual bonds for frequent payouts.
Consider speaking with an investor or financial advisor who can help you to discern the best return on investments for you. If your employer offers a 401k through a financial institution, you should be able to benefit from free financial advice from an advisor!
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