How exactly is the return on investment (ROI) calculated? An in-depth breakdown of the formula and practical cases

Investment Return Rate (ROI) is the most common performance metric in the investment community, but many people know little about its true meaning and calculation methods. This article will analyze this concept from multiple dimensions to help investors more accurately evaluate investment outcomes.

What is Investment Return Rate?

Investment Return Rate, also called Return on Investment or Yield, is a core financial indicator used to measure investment profitability. Simply put, it reflects how much you can earn from your invested capital, usually expressed as a percentage.

This metric has a wide range of applications — not only personal finance uses it to assess their investment results, but companies and institutions also use it to compare the efficiency of different projects. However, it’s important to note that the ROI number itself only indicates the profit ratio and does not involve time costs or risk factors.

Core Calculation Formula of Investment Return Rate

ROI = (Net Profit / Total Investment) × 100%

Where net profit = investment income - investment costs

A straightforward example: you buy a stock for 1 million yuan and sell it later for 1.3 million yuan, then ROI = (130万-100万) / 100万 = 30%.

But in actual operations, the composition of income and costs is far more complex than this example. For stock investments, income may include sale proceeds and dividends, while costs include initial purchase price and various transaction commissions.

Example of ROI Calculation in Stock Investment

Suppose you buy 1,000 shares at $10 each, and after one year sell them at $12.5. During this year, you receive $500 in dividends, and the total trading commissions are $125.

Calculation steps:

• Total Income = (12.5 × 1000) + 500 = $13,000
• Total Costs = (10 × 1000) + 125 = $10,125
• Net Profit = 13,000 - 10,125 = $2,875
• ROI = 2,875 / 10,125 ≈ 28.75%

This example shows that when calculating ROI, every cost item must be considered; otherwise, the final data will be seriously distorted.

ROI and ROAS in E-commerce Advertising

In e-commerce operations, the concept of ROI is often misused. Many practitioners verbally say “ROI,” but what they actually mean is ROAS ( advertising return on ad spend).

Standard formula for advertising ROI: ROI = (Sales Revenue - Cost of Goods) / Cost of Goods

ROAS formula: ROAS = Revenue generated from traffic / Cost of traffic acquisition

The key difference is: ROI measures profit return, while ROAS measures revenue return. Additionally, ROAS only accounts for advertising costs and does not include product costs.

Example: product cost is 100 yuan, selling price is 300 yuan, and 10 units are sold through advertising with an ad spend of 500 yuan.

• ROI = (300×10 - 100×10 - 500) / (100×10 + 500) = 1500 / 1500 = 100%
• ROAS = (300×10) / 500 = 6 times, i.e., 600%

It can be seen that the ROAS figure appears much higher than ROI, which is why the e-commerce industry prefers to report data using ROAS.

The Importance of Annualized Investment Return Rate

When comparing investments of different durations, simple ROI data can be misleading. For example, Project A earns 100% in 2 years, while Project B earns 200% in 4 years. Which one should you choose?

This is when the annualized ROI is needed:

Annualized ROI(%) = [(Total ROI + 1)^(1/Investment Years) - 1] × 100%

Calculations based on the above example:

• A’s annualized ROI = [(1+1)^(1/2) - 1] × 100% ≈ 41.4%
• B’s annualized ROI = [(2+1)^(1/4) - 1] × 100% ≈ 31.6%

After annualization, A is higher than B, indicating A’s investment efficiency is better.

Differences Between ROI, ROA, and ROE

Many people confuse these three indicators. They all measure investment returns but are applicable in different scenarios:

Suppose a company’s total assets are 1 million yuan, with a loan of 500,000 yuan and shareholders’ equity of 500,000 yuan, and it invests 100,000 yuan in a project that returns 200,000 yuan. The project ROI is 100%, but the company’s total profit for the year is 1.5 million yuan, so ROA is 150%, and ROE is 300%.

How to Improve Your Investment Return Rate

Based on the ROI formula, there are only two ways to increase returns: increase profits or reduce costs.

In the stock market, this means:

• Choosing companies with stable dividends and high dividend yields
• Selecting brokers with low commissions or reducing unnecessary trading frequency
• Paying attention to every link in trading costs

However, objectively, optimizing costs to improve ROI often yields limited results. The most direct and effective way is to select investment targets with inherently high ROI.

In the market, the typical ranking of average ROI across assets is: Cryptocurrency > Forex > Stocks > Index Funds > Bonds

Overview of High-ROI Investment Methods

( CFD Trading) (Contracts for Difference)

CFD is favored for its low margin and high leverage. For example, stock CFDs typically require only 20% margin. If you have $10,000, you only need $2,000 to trade an equivalent amount. If this trade profits $500, the ROI is 25%, far higher than spot trading.

Advantages of CFDs include zero commissions, competitive spreads, flexible leverage, but risks are also increased.

Forex Margin Trading

The forex market is the largest financial market globally, with an average daily trading volume exceeding one trillion dollars. Using two-way trading and leverage, returns can sometimes reach over 30%. However, the forex market is heavily influenced by international political and economic factors, requiring more experience and risk awareness from investors. Setting proper stop-loss and take-profit levels is key to protecting capital.

( Gold Investment

Gold’s safe-haven properties make it highly attractive. Historical data shows that gold often performs well during global economic fluctuations, offering both appreciation potential and asset protection.

) Stock Investment

Historical data from the US stock market over nearly 200 years shows an average annual return exceeding 12%. Coupled with relatively low valuations and stable dividend income, it makes for an ideal long-term investment.

Common Pitfalls When Using ROI

Although ROI is widely used, its limitations must also be recognized:

Ignoring the Time Dimension

Project X’s ROI is 25%, and Project Y’s ROI is 15%, seemingly X is better. But if X takes 5 years to earn 25%, and Y only 1 year to earn 15%, the conclusion is completely reversed. Therefore, when comparing investments, annualized ROI is more valuable as a reference.

High ROI Often Comes with High Risk

Pursuing high ROI while ignoring risks is a major mistake in investing. The same 25% ROI can be experienced with stable growth or volatile growth. If an investment loses 30% at the start of the year, investors may panic and sell, missing the rebound at year-end.

Incomplete Cost Accounting Leads to Overestimated ROI

In real estate investment evaluation, if only the property appreciation is considered and loan interest, property taxes, insurance, and maintenance costs are omitted, the ROI data will be seriously distorted. Complete accounting of all costs is the correct approach.

Ignoring Non-Financial Benefits

Standard ROI only measures financial returns and ignores social benefits, environmental values, and other intangible gains, potentially undervaluing the project’s true worth. To address this, some propose the concept of “Social Return on Investment” ###SROI### to obtain a more comprehensive assessment.

Investment return rate is a decision-making reference tool, not the decision itself. Rational investors should consider time horizons, risk levels, complete costs, and overall project scope rather than being misled by a single ROI figure.