We have recently been asked by a couple of members to clarify the individual stock return calculations, as these did not reflect the single stock returns they were seeing in their online broker accounts. We thought we would therefore take the opportunity to clarify how the return formula works.The key difference between an online broker’s formula and that used at Covestor is that where your broker likely uses a ‘simple return’ calculation, at Covestor, just as institutional mutual funds do, we use Time Weighted Returns.
As opposed to being the absolute % cash return that the lead member realizes, the Time Weighted return figure is designed to reflect what someone would achieve if they invested a fixed amount alongside that member. In other words even if the leader adds or removes cash from their account, the portfolio of the follower simply rebalances to reflect these changes (rather than increasing or decreasing in size as that of the leader does).
One important implication of this for a leader is that In some situations this calculation can mean that even though you have made money, the return figure in your portfolio may, correctly, show no gain or a loss. As above this is because, the Covestor return calculation accurately reflects the return someone else would make if they put a fixed amount of money into your portfolio over whatever period it is measured (i.e. they do not follow you in adding to, or reducing, the size of the position over the life of your holding)
Take for example the following scenario:
- You have an account with $10 and you invest it all to buy 1 share of XCorp at $10
- The price drops to $9.50
- You then decide to add in $190 new cash to your account, and use it buy 20 more shares of XCorp
- The price rises back to $10
- You sell all 21 shares of XCorp for $210
- You made $10 profit (i.e. a simple return of 5% on a $200 investment)
But for me tracking you with $100
- I have been following you and decide to invest $100 in tracking your portfolio. I therefore buy 10 shares of XCorp at $10 mirroring your portfolio
- The price drops to $9.50
- You buy the new shares. I wished to follow you with $100 so although you have increased the funds you have in this position, I don’t commit $1,900 more to tracking you. I check my portfolio holdings to make sure my % allocation continues to mirror yours. As you still have 100% of your funds in XCorp and I already have 100% of my ‘tracking funds’ in XCorp, I do not do anything in continuing to mirror you.
- The price rises back to $10
- I keep following you and when you sell 100% of your shares, I also sell all my shares, at $10 each for a total of $100.
- I made $0 (i.e. a simple return of 0% on $100 investment)
The issue is that followers do not put money in and take it out as you do. That’s not what investors do – in the offline world they just invest a fixed amount in a fund. When we shortly include tracking of cash in your account this difference will decrease – but never go away – as you can add to or reduce the amount of cash sitting in your broker account.
Both return figures are ‘correct’ – the one applied on Covestor is more valuable to other members following you, in showing what they can truly achieve. Our job is to put you on a level playing field with the so called ‘pros’ and so many of you are doing such a great job we can’t wait to turn the ‘return’ figure into a reality for your following.
