Expected Return
What Does Expected Return Mean?
The average of a probability distribution of possible returns, calculated by using the following
formula:
Investopedia explains Expected Return
How do you calculate the average of a probability distribution? As denoted by the above formula,
simply take the probability of each possible return outcome and multiply it by the return outcome
itself. For example, if you knew a given investment had a 50% chance of earning a 10% return, a
25% chance of earning 20% and a 25% chance of earning -10%, the expected return would be
equal to 7.5%:
= (0.5) (0.1) + (0.25) (0.2) + (0.25) (-0.1)
= 0.075
= 7.5%
Although this is what you expect the return to be, there is no guarantee that it will be the actual
return.