What is XIRR in Mutual Funds? Explained Simply
Quick Answer
XIRR (Extended Internal Rate of Return) is the most accurate way to calculate returns on investments involving multiple transactions at different dates, like SIPs. Unlike CAGR, which measures point-to-point growth, XIRR accounts for the timing of every cash flow.
Why Absolute Return and CAGR Fail for SIPs
Absolute return only tells you the total gain without considering the time taken. CAGR (Compound Annual Growth Rate) works well for a one-time investment but fails for SIPs because each installment is invested for a different period.
For example, in a 1-year SIP, the first installment is invested for 12 months, but the last one is only invested for 1 month. XIRR solves this by calculating a single rate of return that accounts for all these varied time periods.
How XIRR is Calculated
XIRR is essentially the internal rate of return (IRR) applied to cash flows that occur at irregular intervals. It uses a complex trial-and-error mathematical formula to find the discount rate that makes the Net Present Value (NPV) of all cash flows equal to zero.
In simple terms, it tells you: "What is the annual growth rate this investment would have needed to reach the final value, given the exact dates I put money in and took money out?"
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