This segment introduces the concept of the geometric mean (as compared to the arithmetic mean) and why it is superior for examining portfolio returns. The calculations look harder than they actually are and Dr. Schultz makes it all understandable.
The standard way to examine portfolio returns is by using the arithmetic mean. An example was given of four time periods which were then added and divided by four. Unfortunately, that overstated the portfolio return. Jim then showed us how to calculate the geometric mean. The formulas may look very challenging but understanding the concept is made easy.
To account for any doubters Jim had us look at the last 20 complete calendar years of the SPX. He proved that the arithmetic mean was not accurate for calculating returns while the geometric mean was exact.
Later he showed the power of geometric returns. He drove home the point the importance of starting to invest early using the concept of doubling a penny. He explained the way to know how long it would take to double a portfolio given different returns and the penny lesson makes it clear that you don't want to miss that last doubling.
Watch this segment of “From Theory To Practice” with Dr. James Schultz to learn how the Geometric Mean works, why it is superior and how the power of geometric returns means you need to start investing now.
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