Two methods exist for calculating return on investment (ROI): time-weighted and dollar-weighted. Time-weighted ROI calculates returns based on time and disregards cash flow into and out of an account. This method is preferred for assessing a broker's ability to manage investments because it excludes an individual's deposits or withdrawals that the broker has no control over. In contrast, dollar-weighted ROI calculates returns on each dollar entered into the account. This calculation is slightly more difficult, because you have to analyze each deposit or withdrawal made.
1. View your account statement and separate the investment into periods that end just before a non-interest deposit or withdrawal. As an example, you may have a starting balance of $8,000, deposit $2,000 more 3 months later, withdraw $1,000 the next month and end up with $12,000 4 months later. You would have 3 periods: From the beginning to the first deposit, from the deposit to the withdrawal, and from the withdrawal to the last date.
2. Write out the starting and ending balances for each period, but don't include the deposit or withdrawal that occurs after the end of the period. In the example, Period 1 started at $8,000 and may have grown to $9,500, just before the deposit. Period 2 starts at $11,500 because you deposited $2,000, and may have grown to $13,000. Period 3 starts at $12,000, after the $1,000 withdrawal, but does not grow any further, so it ends at $12,000.
3. Divide each period's ending balance by the starting balance. In the example, you would divide Period 1's $9,500 ending balance by $8,000 to calculate a growth factor of 1.1875. Likewise, Period 2 has a growth factor of 1.1304. Period 3 has a stale growth factor of 1.00.
4. Multiply each period's growth factor to calculate the overall dollar-weighted growth factor. In the example, 1.1875 times 1.1304 times 1.00 gives you 1.3424.
5. Subtract 1 to calculate the dollar-weighted ROI. In the example, you would have a dollar-weighted ROI of 0.3424, or 34.24 percent.