Compound Annual Growth Rate (CAGR)

The compound annual growth rate (CAGR) is a measure of the annual growth rate of an investment over a specified period of time. It is calculated by taking the ending value of the investment and dividing it by the beginning value, then raising the result to the power of 1 divided by the number of years in the period. For example, if an investment grows from $100 to $120 over two years, the CAGR would be 5%.

The CAGR is a useful tool for comparing investments with different starting values and time periods. It can also be used to estimate the future value of an investment. For example, if you know that an investment is growing at a 5% CAGR, you can estimate that it will be worth $126 in two years.

The CAGR is not without its limitations. One limitation is that it does not take into account the volatility of an investment. An investment that grows at a constant rate will have a higher CAGR than an investment that experiences periods of both growth and decline.

Another limitation of the CAGR is that it is only a measure of growth over a specified period of time. It does not tell you anything about the future performance of an investment. An investment that has a high CAGR in the past may not continue to grow at the same rate in the future.

Despite its limitations, the CAGR is a useful tool for understanding the growth of an investment. It is a simple and straightforward way to compare investments with different starting values and time periods.