Understanding Average Annual Return (AAR)
The average annual return (AAR) is a metric used to evaluate the performance of a mutual fund over a specific period.
It represents the net gain or loss made by the fund, excluding sales charges and brokerage commissions but factoring in the fund’s Operating Expense Ratio (OER).
Investors often consider a mutual fund’s AAR when assessing its long-term performance before making investment decisions.
Components of Average Annual Return (AAR)
The average annual return of a mutual fund consists of three primary components:
- Share Price Appreciation: This component reflects the unrealized gains or losses from the stocks in the fund’s portfolio. When the share prices of these stocks increase or decrease, it significantly impacts the AAR of the mutual fund.
- Dividends: Dividends are payments made to shareholders from a company’s earnings. They affect the AAR by reducing the net value of the portfolio. Investors can either cash in the dividends or reinvest them in the fund.
- Capital Gains: Capital gains are realized profits generated from the income of the mutual fund. They can arise from selling stocks in the portfolio to realize profits. Capital gains can be cashed out or reinvested in the fund like dividends.