What Are Historical Returns?
Historical returns refer to the past performance of a security or index, commonly analyzed to predict future returns. By examining historical data, analysts and investors estimate how a security might react in specific circumstances, like changes in consumer spending. These returns are crucial for forecasting future points within standard deviations.
Key Takeaways
- Historical returns represent past performance metrics of securities or indices like the S&P 500.
- Investors scrutinize historical data to forecast future returns or gauge potential reactions of assets under specific conditions.
- The calculation involves subtracting the oldest price from the most recent price and dividing by the oldest price.
Understanding Historical Returns
Analyzing historical returns can be instrumental in understanding the impact of various economic and exogenous factors on a security or entire market. While historical performance can aid predictions, it’s vital to note older data has diminishing predictive value. Historical returns over several years when average, provide a gauge though detailed year-on-year trends can often tell more nuanced stories.
Take the S&P 500: The annual return is assessed from January 1 to December 31. An average return example – 10% annually over five years – might mask interim volatility leading to occasional declines. Historical returns apply across investments like homes, real estate, mutual funds, ETFs, and even commodities such as gold.
How to Calculate Historical Returns
Calculating historical returns is straightforward:
- Subtract the oldest price from the most recent price.
- Divide the difference by the oldest price.
- Convert the result to a percentage by moving the decimal two places to the right.
Example Calculation:
To compute the S&P 500 return for 2019, consider:
- Starting Price: 3,756 (December 31, 2020)
- Ending Price: 4,766 (December 31, 2021)
Return Calculation:
- Difference: 4,766 - 3,756 = 1,010
- Percentage Return: 1,010 / 3,756 = 0.269 or 27%
Repeat this process for monthly, annually, or any preferred period, compiling data to derive trends and similarities.
Historical Chart Patterns
In contrast to traditional fundamental analysis focusing on financial performance, technical analysis predicts price directions using past market data. Patterns and trends detected through historical data are matched with current financial and economic conditions, providing insights. Technical analysts utilize such patterns primarily for short-term price movements, whereas fundamental conditions guide long-term trends.
Analyzing Historical Returns
Historical returns analysis can yield mixed outcomes due to the dynamic nature of markets and economies. Similar events like recessions offer comparative insights; however, differing catalysts impact the relevance of these comparisons over different timescales.
Similar Events: Recessions
Examining the 2020 recession may prompt comparisons with 2008-2009. Specific events, spending patterns, and economic conditions need to be fairly aligned for valid trend extrapolation. Conflicting underlying factors imply masked predictability based purely on historical data.
Conclusion
While historical returns may not serve as a foolproof crystal ball, their analysis offers context for current conditions. The past behavior under certain circumstances equips investors with insight for future decision-making.
Armed with such understanding, investors can better strategize their asset allocation and develop risk management practices prudently. In essence, while historical returns might not guarantee future gains, they certainly guide informed and prepared investment steps.
Related Terms: stock performance, economic cycles, price movements, momentum, asset allocation.
References
- Yahoo! Finance. “S&P 500: Historical Data”, Select Time Period: Dec. 30, 2020 - Dec. 31, 2021.
- CMT Association. “Technical Analysis: Definition”.
- CFA Institute. “Fundamental vs. Technical Analysis”.
