One of the primary questions that clients have for their financial advisor is “What’s my portfolio’s performance?” Many investors have a threshold for their portfolio’s expected return.

Reporting the performance numbers to clients in annual reviews is a major factor in the client’s perception of how the advisor is doing. But not all performance numbers are equal. Knowing whether the calculation is Simple, Time-Weighted Rate of Return, or Dollar-Weighted Rate of Return can have differences in the numbers reported to the client.

Know the difference: Financial Portfolio Performance Calculations

Simple Rate of Return is rarely used for client updates because it does not properly take into effect profits versus cash flows. It also does not take into account the effects of compounding. Due to the complex nature of the other two calculation methods, if someone is looking for a quick estimate of how an account is performing, this can be utilized.

Time-Weighted Return (TWR) takes into account the amount of time each security has been invested in to get a true calculation of how that investment performs over time. Cash flows into and out of the investment do not affect the calculation. In order to calculate the TWR of an account over time, the valuation will need to be calculated for each day in the period then summed together.

Dollar-Weighted Return, or “IRR”, is the discount rate equating the present cost of an investment with the present value of an investment. Unlike TWR, IRR takes into account the timing of the cash flows and tracks the performance of actual dollars invested over time. The only way to calculate the IRR is iteratively using computer based calculations.

So which one is best? Unfortunately, there is not an easy answer to this question and there are strong arguments on both sides. The GIPS (Global Investment Performance Standards) requires the use of TWR, but the important thing when evaluating portfolio or fund performance is knowing which calculation is used, and that it is consistent across all client portfolios and time periods. Which rate of return are you using with clients? Do they understand what you are using, and why? Do you have this level of transparency built into your practice today?


Curious to find out how you stack up against other advisors?

Take 2015 Advisor Practice
Benchmarking Survey


facebook twitter linkedin mail print
Share Post: facebook twitter linkedin mail print
Recent Posts

Jeffrey Levine: A Future-Focused Approach to Tax Planning

By: Jamie Hopkins
Effective tax planning requires a big-picture approach to reduce a client's tax bill over their whole life. That's the view of Jeffrey Levine, Chief Planning Officer at Buckingham Wealth …

The Essential Guide to Financial Advisor Software

By: Andrew Rogers
Today's investor is reaping the benefits of digital transformation in their personal and business life. Increasingly, they expect their financial advisor to leverage the latest digital tools, too, and …

Ed Slott: How Taxes Can Kill Retirement Dreams

By: Jamie Hopkins
Taxes are the biggest challenge for investors approaching retirement, says Ed Slott, Founder and President of Ed Slott and Company, Professor at The American College of Financial Services and …

Marguerita Cheng: Retirement Planning is Personal

By: Jamie Hopkins
The retirement planning work of Marguerita (Rita) Cheng, CFP®, CEO at Blue Ocean Global Wealth, is inspired by lessons from her parents. With a large age gap between them, …
1 2 3 114