Absolute Return: Definition, How It Works, & Examples

Absolute Return Explained

An absolute return is essential to understand when it comes to investing.

Unlike relative returns, which compare an investment’s performance to a benchmark or index, an absolute return focuses on the actual returns of the asset. It’s an unbiased, straightforward measure.

The beauty of absolute return is that it doesn’t judge an investment based on prevailing market trends or comparisons with other investments.

Whether the markets are soaring or plummeting, the absolute return only cares about one thing: the real, tangible gain or loss.

An absolute return is a clear and transparent way to evaluate investment performance, stripping away the often confusing layers of market context.

Investors often seek absolute return strategies to minimize risk and maximize profits, irrespective of market behavior. By focusing on the actual gains or losses, it helps investors make informed decisions that aren’t clouded by market noise.

Here are some key insights:

• Independent from Market Trends: Absolute returns remain unaffected by the general direction of the market. Whether the market is bullish or bearish, the absolute return represents the real change in an investment.
• Risk Management: By focusing on the actual performance, investors adopting absolute return strategies can often manage risk better.
• Transparency: The simplicity of absolute returns is one of its biggest strengths. There’s no need to dive into complex market comparisons; the returns are transparent and easy to understand.

An Example Of An Absolute Return

The concept of absolute returns might seem complex, but it boils down to something quite simple: what did you actually gain or lose from an investment? Let’s dissect this with an example.

Suppose you invest $10,000 in Company A. Over a one-year period, the stock market as a whole grows by 8%, but Company A’s stock grows by 12%. Your investment is now worth $11,200.

The relative return here would be 4%, as it’s 12% (Company A’s growth) minus 8% (the market’s growth).

However, the absolute return is 12%. It looks at the individual growth of Company A, disregarding what the market did. Your absolute gain is $1,200, and it doesn’t matter if the market went up, down, or stayed flat.

Absolute returns allow investors to measure the real return (success or failure) of their investments, granting them the clarity they need to make sound financial decisions.

Here’s another example:

Consider another scenario where you invest $10,000 in a fund aiming for absolute returns. The market has had a volatile year, with many stocks ending in negative territory.

Your fund manager, focusing on an absolute return strategy, maneuvers through this volatility and manages to achieve a 3% gain. You end the year with $10,300.

While many other investors may have faced losses due to market conditions, your absolute return focus ensured a gain, albeit a modest one. This gain is appreciated without considering the turbulent market environment.

Here are the differences between absolute returns and relative returns:

Absolute Vs Relative Returns

Aspect	Absolute Returns	Relative Returns
Definition	Actual gain or loss of an investment.	Performance of an investment compared to a benchmark.
Focus	Individual investment performance.	Comparison with market trends or specific benchmarks.
Measurement	Calculated as the percentage change in value.	Difference between investment’s return and benchmark.
Market Dependency	Independent of market trends.	Dependent on market or benchmark performance.
Use	Risk management, clarity, and goal alignment.	Understanding how an investment performs against others.
Investor Perspective	Provides a clear picture of real gains or losses.	Offers a contextual view, comparing to market trends.

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