Wall Street Myths – Average Vs. Actual

Assume you started with $100,000 in your account. If your investments decreased by 25% percent one year - then increased by 25% the following year - how much would be in your account?

1. $100,000

2. More than $100,000

3. Less than $100,000

The correct answer is “C” - less than $100,000. Let’s do the math.

25% of $100,000 is $25,000 - which brings you down to $75,000. Now, 25% of $75,000 is $18,750 - which brings you up to $93,750.

But what if you had the gain of 25% the year before the loss? The same thing happens! Let’s do the math.

25% of $100,000 is $25,000 - which brings you up to $125,000. Now, 25% of $125,000 is $31,250 - which brings you back down to the same $93,750.

That fact of the matter is that for every 25% loss you incur - you must gain 33⅓% just to get back even!

In our equation most investors would say that they averaged 0% over the last 2 years. In other words +25% and -25% averages out to 0%.

The truth is if you go up (or down) 25% and then go down (or up) 25% your average return has been a negative 3.17%.