What CAGR tells you
CAGR stands for compound annual growth rate. It is the single yearly rate that would take an investment from its starting value to its ending value, if it grew by the same percentage every year. Real investments never grow that evenly, so CAGR is a smoothed summary, not a record of what happened each year.
It is useful because it lets you compare investments held for different lengths of time on the same footing, such as a fund held for 3 years against a stock held for 8.
The CAGR formula
CAGR = (Ending value ÷ Starting value)^(1 ÷ years) − 1
Divide the ending value by the starting value, raise the result to the power of one over the number of years, and subtract 1. Multiply by 100 for a percentage.
Worked example
You invest ₹1,00,000 and it becomes ₹2,00,000 after 6 years. The ratio is 2, and 2^(1/6) is about 1.1225. So the CAGR is about 12.25% a year.
A common shortcut, dividing the total gain of 100% by 6 years, gives 16.7% a year, which overstates the result because it ignores compounding. You can check any pair of values with the CAGR Calculator.
Where CAGR can mislead
CAGR hides the path. Two investments can have the same CAGR, but one may have fallen 40% along the way. It also depends heavily on the start and end dates you choose, so a result measured from a market low looks much better than one measured from a peak.
CAGR does not work for a SIP, because money goes in at different times. For a series of instalments you need XIRR, which weighs each cash flow by its date. CAGR is meant for a single amount invested once.
Finally, compare CAGR with inflation. A 6% CAGR in a year when prices rose 6% did not make you richer in real terms. The Inflation Calculator shows the gap.
Frequently asked questions
Is CAGR the same as average annual return?
No. The average of yearly returns ignores compounding, and it can be higher than the CAGR when returns swing up and down. CAGR is the rate that links the start and end values exactly.
What is a good CAGR?
It depends on the asset, the period and the risk. Compare it with inflation and with alternatives such as an FD or an index fund over the same period.
Can I use CAGR for a SIP?
Not accurately, because instalments are made on different dates. Use XIRR for a SIP.