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#1
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To XIRR or Not To XIRR
What IRR is the investment community most familiar with? I want to
publish an effective annual rate for my investors. We give monthly distributions at the end of the month. And from what I understand I have at least two options: 1) XIRR() 2) ((1+IRR())^12)-1 Which one of these calculations (or other) is the most commonly accepted. Thank you, Jonathan |
#2
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To XIRR or Not To XIRR
The choice is simple.
If the cash flows are regular (happen at the same interval, say monthly, for the entire period), use IRR If the cash flows are irregular (which almost always happens in the investment business, as people put money in and take it out on their own schedule), use XIRR. -- Regards, Fred "Jonathan" wrote in message ups.com... What IRR is the investment community most familiar with? I want to publish an effective annual rate for my investors. We give monthly distributions at the end of the month. And from what I understand I have at least two options: 1) XIRR() 2) ((1+IRR())^12)-1 Which one of these calculations (or other) is the most commonly accepted. Thank you, Jonathan |
#3
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To XIRR or Not To XIRR
Jonathan wrote:
What IRR is the investment community most familiar with? The "investment community" is very large. What do you mean? I want to publish an effective annual rate for my investors. We give monthly distributions at the end of the month. And from what I understand I have at least two options: 1) XIRR() 2) ((1+IRR())^12)-1 I presume you realize that for regularly-spaced cash flows, there is very little difference. Frankly, I doubt that your investors would notice the difference -- unless, of course, you tell them. And there is a third option: 12*IRR(). I find this prevalent in academic papers. Personally, I think it is wrong. Which one of these calculations (or other) is the most commonly accepted. It really depends on what you mean by "commonly accepted". Since XIRR() is available only in an Excel add-in (albeit it bundled with Excel) -- and I don't know since when -- I think it is a safe bet that for regularly-spaced cash flows, IRR() is the more "familiar" and "commonly used" function, probably with monthly periods in your case. But whether the "investment community" compounds the periodic IRR() or simply multiplies it by the number of periods, I cannot say. Much of what I read simply multiplies :-(. PS: Although XIRR() might seem more accurate, I think it misrepresents the real daily compounded rate from an investment perspective. I think that should only take trade days into account -- on average, 252 per year and 21 per month. So arguably, IRR() is the better compromise anyway, at least for regularly-spaced cash flows. |
#4
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To XIRR or Not To XIRR
Thanks guys,
I think I am going to go with option 2: (1+IRR()^12)-1, since our distributions are consistantly monthly. In much of my financial dealings to date I have too seen IRR()*12 -- but reading a handful of Fred's posts have justly convinced me that it is simply wrong. Even though, I know I am going to have to teach FIN101 to many of my investors ;-) -- jonathan |
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