Return on Investment (ROI)
Return on investment, or ROI, is a simple profitability measure that expresses the gain or loss on an investment as a percentage of its cost. It is calculated as net profit divided by the cost of the investment: ROI = (final value − initial cost) ÷ initial cost. Because it is easy to compute and compare, ROI is one of the most widely used metrics for judging how efficiently money has been used.
Worked example
An investor buys shares for $5,000 and later sells them for $6,500, after paying $100 in fees. Net profit = $6,500 − $5,000 − $100 = $1,400. ROI = $1,400 ÷ $5,000 = 0.28, or 28%. If the investment was held for two years, the simple annualized return is roughly 28% ÷ 2 = 14% per year (a compounded figure would be slightly lower).
Why it matters
ROI matters because it puts profits on a common percentage footing, so a $1,000 gain on $5,000 can be compared directly with a $1,000 gain on $20,000. Its biggest pitfall is that the basic formula ignores time: a 28% ROI earned in one year is far better than the same 28% over ten years, so for multi-year investments an annualized or compound measure is more honest.
Frequently asked questions
What is a good ROI?
It depends on the asset and the time period, but as a long-run benchmark, broad stock-market indexes have historically delivered roughly 7% to 10% per year before inflation. A "good" ROI should beat the return available from a comparable, lower-risk alternative.
What is the difference between ROI and annualized return?
ROI is the total percentage gain over the whole holding period and ignores how long that took. Annualized return restates the gain as a per-year rate, which makes investments of different durations directly comparable.
Related terms: Compound Interest, Net Worth