ROI

Return on Investment (ROI) is a metric that investors use to compare different investments. ROI tries to directly measure the amount of return on a particular investment, relative to the investment’s cost. ROI is calculated by taking the difference between your investment’s current value and the investment’s initial value and then dividing this by the initial investment. The result is expressed as a percentage.

How can I use ROI when I invest in stocks?

• You use ROI as a measure of how well a stock is doing compared to others. A higher ROI will mean that the stock’s value increased higher than those of other stocks and suggests that it is a more attractive investment. Sometimes, an ROI could be negative if the stock price falls. For example, if today, you decide to invest in 100 shares of Netflix stocks at $488.93 per share. One month later, the shares of Netflix dropped to $400 per share, the ROI will be -18.19%, and you will make a loss of $8,893 on your initial investment. 
• you can also compare the ROI of different stocks with a single market benchmark and index to determine which stocks outperformed or underperformed the market. Since both Apple and ExxonMobil are listed in the U.S. market, we will compare their stocks to the S&P 500, the U.S. equity benchmark. If you had invested in Apple at the start of 2020, your ROI would be 55.78%, significantly outperforming that of the S&P 500. Conversely, if you had invested in ExxonMobil since the beginning of the year, you would have incurred a loss and a negative ROI of -51%.

• However, ROI may present limitations when comparing investments with different time horizons. For example, you invested in Amazon’s stocks for one year, gaining an ROI of 20%. Then you also invested in Tesla’s stocks for three years and achieved an ROI of 42%. While the Tesla’s stock investment ROI was greater than that of Amazon’s stocks, you cannot make a fair comparison and say that Tesla’s stock is a better investment than Amazon’s stocks as the investment time horizons were different. What you could do is to average Tesla’s 3-year ROI into an average annual ROI of 14% and then make a fair comparison with Amazon’s 1-year ROI of 20%. You can now see that Amazon’s stocks seem like a more attractive investment as it allowed you to achieve a higher annual ROI.

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