How to figure your portfolio's return

Q: How can individual investors calculate the rate of return on their portfolios if they have deposited or withdrawn money from the account?

A: I'm always intrigued when people do things with their investments they'd never do with their money in normal life.

Would you order a dish from a restaurant menu without knowing the price ahead of time? Would you buy a non-refundable airline ticket without knowing the fare? While there may be some exceptions, the answer will usually be no.

But investors keep buying stocks, bonds and mutual funds and have no idea what they're paying or, more important, getting in return. And they may be paying dearly either with large mutual fund fees or indirectly with lackluster performance.

Worse yet, they might be fixated on their one winning stock while ignoring the five dogs that are killing their portfolio.

Are you one of these people? You are if you don't know how to calculate the return of your portfolio. You'd be surprised how many people don't. The briefly famous Beardstown Ladies investment club thought they were brilliant investors until it was discovered they were not measuring their returns properly (they counted deposits to the account as investment returns).

Many brokers don't help. Few of them bother to provide rates of return for their customers' portfolios. The cynic in me suspects that if many active traders knew what their real returns were, they'd probably quit trading so much. To the credit of major mutual fund companies, most of them do calculate your performance data.

Well, it all gets cleared up right now. I'll show you how to do this yourself, using 2005. To get started, you'll need:

1. The balance of your portfolio on Dec. 31, 2004, available on your statements.

2. The portfolio balance on Dec. 30, 2005.

3. The dates and amounts of any deposits or withdrawals made during the year.

4. Unless you're a math genius, you'll need a financial calculator or Microsoft Excel.

Let's say your portfolio was worth $10,000 on Dec. 31, 2004. During the year, you deposited $1,000 on March 30, withdrew $500 June 30, deposited another $1,000 Sept. 30 and the portfolio ended the year worth $12,000.

Someone who didn't account for the deposits and withdrawals would assume they did well last year. After all, the portfolio gained 20% in value, not including the value of the deposits and withdrawals.

But let's do this correctly. We'll first do the problem assuming you have a Hewlett-Packard 12C financial calculator, a popular calculator handy for all investors. Incidentally, the calculator is celebrating its 25th anniversary. You can read more about it here.

Keep in mind that each number described above is actually a cash flow. We can plot it this way:

Initial cash flow: minus $10,000. We show this as a negative number because it's theoretically money coming out of your pocket to invest.

Cash flow 1: minus $1,000 — again, a negative number because the money is coming out of your pocket.

Cash flow 2: plus $500. This is positive number because the cash is coming into your pocket.

Cash flow 3: minus $1,000. Negative, see above.

Cash flow 4: plus $12,000. This is the money theoretically coming into your pocket from the investment.

The HP 12C makes this easy to calculate. Here are the keystrokes (note the "CHS" key makes the number negative):

Step 1: 10,000 CHS [g] Cf0

Step 2: 1,000 CHS [g] Cfj

Step 3: 500 [g] Cfj

Step 4: 1000 CHS [g] cfj

Step 5: 12000

Now that you've entered everything, all you have to do is hit the [f] IRR key, and the calculator does the rest. The HP12C will show you that the quarterly return on your portfolio is 1.14%. All you have to do is annualize that quarterly return. To do that, divide 1.14 by 100, add 1, take the sum to the fourth power, subtract 1 and then multiply by 100. You then derive an annualized return of 4.639%.

You might be proud of yourself until you realize that last year, the Standard & Poor's 500 index returned 4.9%, says Ibbotson Associates. In other words, you underperformed a basket of stocks that a monkey could have bought and held in an index fund. And that doesn't even include any taxes you may have paid if you sold any of the shares for a capital gain.

What if you don't have an HP 12C? You can do the same thing in Microsoft Excel. Below is what you'd type into the appropriate cells

Cell A1: -10,000

Cell A2: -1,000

Cell A3: 500

Cell A4: -1000

Cell A5: 12,000

Cell A6: =IRR(A1:A5)

Cell A7:=((((A6/100)+1)^4))-1*100

And you get the same answer in cell A7 that you got when using the HP 12C if you format the cells for "number" to four decimal places. Otherwise, Excel will round things off.

If all this seems like too much work, don't give up. Not knowing your portfolio return is like driving on the freeway blindfolded. Another option is to buy a software program that does the calculations for you.

One piece of software I've used that does this quite well is the BetterInvesting Portfolio Manager. This software program allows you to do enter each transaction into a checkbook-like register and it calculates your return with great precision. It's not cheap, but you can learn about the software and download a free trial here.

Matt Krantz is a financial markets reporter at USA TODAY. He answers a different reader question every weekday in his Ask Matt column at money.usatoday.com. To submit a question, e-mail Matt atmkrantz@usatoday.com.

Posted 2/27/2006 12:01 AM ET http://www.usatoday.com/money/perfi/columnist/krantz/2006-02-27-portfolio-return_x.htm Calculate your portfolio return here: Detailed version:   CALCULATE YOUR PORTFOLIO'S RETURN Simplified version:  Portfolio Rate of Return – Calculator

Calculating Intrinsic Value

Security Analysis 401: Calculating Intrinsic Value

By Sham Gad 
August 23, 2007 |

In the previous three articles in this "Security Analysis" series, I discussed the concept ofmargin of safety, explained why you should rely on intrinsic value to make investing decisions, and showed why you want to find great businesses with wide economic moats. Once you've taken those steps and found a business that looks attractive, you next need to determine theintrinsic value of that business, to find out whether a bargain of an investment opportunityexists.

Every business has an intrinsic value. According to John Burr Williams in his 1938 publicationThe Theory of Investment Value, that value is determined by the cash inflows and outflows -- discounted at an appropriate interest rate -- that can be expected to occur during the remaining life of the business.

This definition is painfully simple, but it works. Let's apply it to a couple of businesses so you can see for yourself.

Solid, stable cementCEMEX (NYSE: CX  ) is a Mexican producer and distributor of cement. Competing with the likes of LaFarge (NYSE: LR  ) , it is one of the largest cement players in the world. It produced free cash flow -- cash from operations less capital expenditures -- of about $2.6 billion in 2005 and around $2.75 billion in 2006. Meanwhile, between 2004 and 2005, it grew free cash flow by around 50%, but that same figure was virtually flat from 2005 to 2006. That may give you an inkling that it makes no sense to try predicting a different rate of cash flowgrowth each year. Instead, when attempting to calculate intrinsic value, you should stick to one or two consistent conservative growth rates, although smaller companies starting with a lower base figure can be assigned higher rates of growth. When calculating intrinsic value, I use a 10-year forecast, because I think that's an adequate time period to provide sufficient data, and I apply a 10% rate discount rate, which is equivalent to the S&P 500's historical return.

Cemex, however, is a huge business, and while it may experience some years in whichcash flows grow abnormally, it's more logical when determining its intrinsic value to use a meaningful conservative figure. Always work with a margin of safety.

In this case, it's reasonable to assume that Cemex can grow its free cash flow by 10% for four years. While this growth rate can continue for a longer period, I like to be extra cautious and predict that free cash flows stabilize at a 3% growth rate thereafter. Cemex is a very well-run company, and there will always be a need for cement in the world, so I think 3% free cash flow growth is very achievable.

Let's look at the calculations. Dollar figures are in billions.

Year	Free Cash Flow	Present Value of FCF
2007	$3.02	$2.75
2008	$3.30	$2.75
2009	$3.70	$2.75
2010	$4.02	$2.75
2011	$4.43	$2.75
2012	$4.56	$2.57
2013	$4.70	$2.41
2014	$4.83	$2.25
2015	$4.98	$2.11
2016	$5.13	$1.97

The sum of the present value (PV) of the free cash flows comes to about $25 billion.

Next, you need to determine a terminal value for the business. Conservatively, I assume that Cemex would be worth 10 times its 2016 free cash flow, or $51.3 billion, which has apresent value of $19.7 billion. So by adding all of the PV cash flows together, my estimate of intrinsic value for Cemex comes to about $45 billion. With about 790 million shares currently outstanding, Cemex has a per-share intrinsic value, based on my assumptions, of approximately $57 a share, versus the current stock price of $31.

Does this mean you should back up truck and load up on Cemex? No, even though I do think Cemex is a fantastic company selling at an attractive price. For one, the number ofshares outstanding 10 years from now will surely be a different number from what it stands at today. Assume, for example, that the share count rises to 1 billion shares and the intrinsic value comes down to $45 a share. Then you're talking about a whole different set of numbers.

Most importantly, though, you need to know the business inside and out in order to estimate cash flow growth with a high degree of confidence. The ability to assess the quality and competence of management thus becomes critical. Knowing how management spends company dollars tells you a lot about how much cash the company will produce years down the road. In short, do your due diligence ... and when you are done, do it again.

The hard part

Calculating intrinsic value is simple and straightforward. It's having accurate data that's the difficult part. That's why Benjamin Graham remarked: "You are neither right or wrong because the crowd disagrees with you. You are right because your data and reasoning are right." That's also why Warren Buffett, the best investor on the planet, spends a lot of time focusing on businesses with durable competitive advantages, such as the brand value that Coca-Cola(NYSE: KO  ) offers, or the monopoly-like industry that American Express (NYSE: AXP  ) operates in.

It's easy to predict future cash flows with a high degree of certainty for businesses like this -- ones that have wide economic moats insulating them from the threat of competition. That gets back to our last discussion. And it shows how all of our discussions tie together to make you a better investor.

http://www.fool.com/investing/value/2007/08/23/security-analysis-401-calculating-intrinsic-value.aspx

Intrinsic Value: There are two fatal weaknesses of any DCF model.

Why Stock "Value" Systems Have No Value

John Price, PhD

We regularly get asked how Conscious Investor is different from the countless "value" based software products and books available. The vast majority of "value" approaches are based upon a standard discount cash flow (DCF) model. They all purport to find what is called the intrinsic value or true value of a stock. This is the value the proponents claim that all rational investors should pay for the stock. Many of the authors and investment websites claim to base their intrinsic value approach upon the methods of Warren Buffett. In fact, it is actually very unlikely that he really uses any of these methods in anything vaguely resembling a formal approach. For example, Charlie Munger, the old friend of Buffett and the Vice-Chairman of Berkshire Hathaway, says that he has never seen Buffett do any discount value calculations. This is consistent with the answer he gave when asked about intrinsic value at the annual meeting of Berkshire Hathaway in 1996. "There is no formula to figure it out." He replied. "You have to know the business." Until recently, Buffett had never used a computer for anything, let alone for implementing any value models. Now he only uses it to play bridge on-line. When people write about Buffett I usually agree with most of the general observations made about his approach. The one area where Conscious Investor differs from the majority of Buffett followers (but quite likely not with Buffett himself) is in relation to the "valuation" model used. There are large numbers of DCF models. Stable growth models, two-stage models, three stage models and so on. Each of these models calculate the intrinsic value of the stock by discounting back to present time the stream of "cash" that is generated by the business. All I can say is that it is hard to believe that such simplistic and unreliable material is still taught in universities and promoted by stock analysts. The main problem is that people think that just because they can put some numbers into a formula they have found a useful and realistic model. Here we are talking about all the academics and writers who have limited understanding of the interface between mathematics and the real world. Two Fatal Weaknesses There are two fatal weaknesses of any DCF model. The first is that DCF models are unstable — small changes in the input values can lead to such large changes in the output that almost any number can be obtained. Here is a simple example showing just how unstable intrinsic value calculations are. The model uses the standard two-stage approach. We assume that the company spends ten years in the initial stage during which the cash per share (generally the free cash flow) that it generates grows by the rate given in the second column. After the initial stage comes the steady state period. During this period the cash is assumed to grow at the rate described in the third column. Finally, everything is discounted back to present time using the rate given in the fourth column. With small changes in the input variables, the output can shift from $23 to $58. I can't help getting the image in my mind of the host of an old television show saying, "Would the real intrinsic value please stand up?" Current Cash Initial Growth Rate Final Growth Rate Discount Rate Intrinsic Value $1.00 10% 4% 11% $23.09 $1.00 11% 5% 10% $33.50 $1.00 12% 6% 9% $58.00 And then you have to do the same estimate for the discount rate. If a model with this level of instability was proposed in a science class, it would be thrown out of the window. The second fatal weakness is that just because some model says it is generating something called intrinsic value does not mean that it is providing anything that really is "intrinsic value". And it certainly does not mean that it is giving something useful for investors. For example, just because a stock is undervalued (by some model or other) does not mean that it won't stay undervalued. This is quite different from saying that if a company has a strong economic performance, then eventually the market will acknowledge this by increased stock prices. Another weakness The instability described above is compounded by the fact that it is impossible to confirm the accuracy of two of the input variables. For example, the entry for the final growth rate requires that you estimate the growth rate of the cash not for another ten years, or even twenty years, but out to infinity! This is despite large studies showing that analyst forecasts for earnings over five years are no better than random. In contrast, in Conscious Investor we don't try to calculate the mythical concept of intrinsic value. We don't talk about whether a stock is undervalued or overvalued, whatever that may mean. Rather we define value in terms of the return you will get on an investment. Instead of intrinsic value, we talk about investment value or investment return. This is calculated using the proprietary tools STRETTM and STRETD®. STRET is a calculation of the annualized percentage profit or rate of return from owning the stock. STRETD is similar except that it assumes that dividends are reinvested. By calculating the actual return you can anticipate on your purchases, you get practical criteria whether it is worthwhile buying stock in a particular company or not. So in a nutshell, if you were to compare the stocks selected by Conscious Investor with other "value" models freely available on investor websites, you are unlikely to find much overlap between the selections. Despite the best intentions of would-be intrinsic value systems, the way that DCF models work either provide you with more or less random stocks or with stocks that you like and you (unconsciously) manipulate the data to make them appear undervalued. The Conscious Investor for more details ... The book The Conscious Investor: Profiting from the Timeless Value Approach by Dr John Price covers over 30 valuation methods including their assumptions, and their strengths and weaknesses.

http://www.conscious-investor.com/articles/articles/ar04value.asp

Interview With Mr Market

by THE GRAHAM INVESTOR on OCTOBER 3, 2011

Exclusive! The Graham Investor has staged an amazing interview with Mr Market. Never before has anyone managed to interview this elusive fellow. The interview gives us a new insight into what goes on in the mind of one of the most enigmatic figures of history. Still going strong, and still beguiling investors, traders, and journalists, Mr Market pulls no punches in this amazing interview.

TGI: Thank you for agreeing to this interview. Benjamin Graham once attempted to explain your behavior in a nutshell, suggesting that you came along each day and set a ridiculously high price or a ridiculously low price for an equity or a group of equities, and that the average investor would be well-placed to ignore you and seek his own counsel regarding valuations. What do you feel about that?

Mr Market:  Yes, I heard about that. I can’t speak for Mr Graham – he is dead, after all – but I am still going strong. I’ve been doing this for a few centuries now….I mean, back in 1637 when people were pretty much gambling on tulip bulbs, they were trying to pin it on me even back then. It has been ever thus: every time some bubble/bust or other comes along, they say Mr Market is up to his usual crazy tricks again, setting ridiculous prices. I tell you, one of these days I need to get myself a teflon coat.

TGI: But you do appear to be the one setting prices. Are you denying this?

Read more here:

http://www.grahaminvestor.com/2011/10/03/interview-with-mr-market/