What is XIRR in Mutual Funds?

5 Jul 2021  Read 3157 Views

For all good reasons, SIPs have been people’s favorite for years now. But, here’s an important thing most people don’t know - How do you calculate returns from SIPs? Well, let's discover.

You can build wealth little by little, SIP by SIP. There's no denying it. For most of us, we don't have big pockets to set aside a lump sum amount for investing, all at once. Add to it the benefits of cost averaging, and you'll know why SIPs are considered a great investment technique. But the easier these SIPs look, the more complicated is the calculation of returns in that case.

As there is a stark difference in the way lump-sum investments and SIPs are made, the metrics for comparing their returns are also quite different. Yes, CAGR (Compounded Annual Growth rate) is beneficial when calculating with a lump sum. But it may not be a sound way, especially when multiple cash flows spread over an unequal amount of time.

That sounds like a serious problem, isn’t it? But not without an answer. And that is XIRR.

XIRR (Extended Internal Rate of Return)

XIRR is a tool used to calculate the returns on periodic investment transactions made at different times. Let's look at a scenario to understand this better. Mr. P is a person who is investing in a fund ABC through SIP. His investment has several cash inflows and a significant amount of withdrawals happening side by side. This is causing serious confusion, and Mr. P cannot land at an accurate rate of return.

Under such a case, the calculation of returns becomes easier when you are using XIRR.  So whenever multiple transactions occur either via SIP, STP(Systematic Transfer Plan), or SWP (Systematic withdrawal plan), XIRR will be an efficient approach in calculating the returns. This helps you figure out the actual amount you will be getting at the end of the period… just peanuts or some real returns. Further, having an idea of the same becomes significant in:

  • Evaluating the performance of your fund

  • Arriving at the right decisions on your portfolio.

  • Rebalancing and re-evaluating your investment plans and strategy and finally

  • To plan for your future.

So should you undergo tedious data crunching and searching to arrive at the right answer? Not at all. Further, you will not need some serious app or software to make this calculation. You can calculate the same at your own comfort using an excel sheet.

But before we jump to the entire process of calculating the XIRR, let’s broadly look into the difference between CAGR and XIRR.

CAGR vs XIRR

The below-mentioned pointers are some of the crucial differences that exist between both methods of return calculation:

Particulars

CAGR

XIRR

Meaning

CAGR helps an investor to gain insights into the growth of his corpus over time.

XIRR helps an investor to find out the average return of all the cash flows into his investment.

Usage

Mostly used for a lump sum.

It takes into account the multiple inflow and outflow occurring in an investment. In short, calculation of returns when SIP and SWP plans are opted becomes easier.  

Return calculation

It measures the annualized return for lump sum investment.

It measures the annualized return for periodic investments (regular as well as irregular).

 

How to calculate XIRR?

Now comes the part we all have been waiting for. Let’s imagine a scene where the following are the details of investment & the investor now wants to know his xirr to determine his future investment plans.

Details of investment

Investment start date

21 - 9 - 2018

Investment end date

21 – 6 – 2019

Redemption amount

50,000

SIPs of the investment

5000, 6000, 5000, 5000, 7000, 7000, 7000, 7000, 7000

XIRR

?

 We will see how exactly he can arrive at his xirr using the excel sheet in 4 easy steps.

Step 1: Enter the date of investment in one column. For instance, we have taken dates from 21/9/2018 to 21/5/2019, as given in the above example.

Step 2: Now, in the next column, enter your activity, whether it is a withdrawal or investment. In case of an investment, add (-) before the amount. Whereas, in the case of inflow, we simply write the positive value as it is. In the case presented, a different amount and action have been performed. And the entries are done accordingly

Step 3: Then, finally, enter the redemption amount in the last column. Which is, in this case, 50000 (assumed amount).

Step 4: Here comes the crucial part. Use the below-mentioned formula to arrive at the XIRR:

=XIRR(B2:B11, A2:A11)*100

We have got the xirr for our assumed example to be approximately 25%

Thus, you can get the number you want in no time and with little effort. Further, we have assumed that the installment or withdrawal to be equally spread over periods. But the same may not be applicable in your case. In such a scenario, you can consider the time of each interval into your consideration as well.

And the result of the same looks like this:

 Summing up

These little tricks and strategies might help you differentiate yourself from many others and help you fast-track your financial goals. It enables you to look deeper into your investment and interpret them better. Having offered the right methods and tools, it always drives your ability to decide logically and not be carried by sentiment. So, ensure you do that part of yours right and leave the rest aside.

Always have your spreadsheets ready and do the maths before investing.

Invest wisely!

About the Author: Varishika Dinesh | 136 Post(s)

Varishika is on the verge of successfully completing B.Com. Nothing excites her more than reading books and watching movies. Business, finance, economy? You have her attention.

Liked What You Just Read? Share this Post:

Finology Blog / Mutual fund / What is XIRR in Mutual Funds?

Wanna Share your Views on this? Comment here: