ROI Formula Breakdown: How to Effectively Use Return on Investment

What Exactly Is Investment Return Rate Measuring

The investment return rate (ROI) is essentially an indicator of “how much money can be earned back from the invested amount.” It is expressed as a percentage and has a wide range of applications—from individual stock trading, e-commerce marketing to corporate capital allocation.

Core Definition: ROI = (Net Profit ÷ Total Investment) × 100%

Where net profit = total revenue - total costs. It seems simple, but there are many pitfalls in actual calculations.

Application of ROI Formulas in Different Investment Scenarios

Stock Investment Scenario

Suppose you buy 1,000 shares at $10 each, sell them after a year at $12.5, receive $500 in dividends, and pay $125 in transaction fees.

Calculation process:

• Total revenue = (12.5 × 1000) + 500 = $13,000
• Total costs = (10 × 1000) + 125 = $10,125
• Net profit = 13,000 - 10,125 = $2,875
• ROI = 2,875 ÷ 10,125 ≈ 28.75%

E-commerce Advertising ROI

Product cost $100, selling price $300. Sold 10 units through advertising, with $500 ad spend.

• Total revenue = 300 × 10 = $3,000
• Total costs = (100 × 10) + 500 = $1,500
• Net profit = $1,500
• ROI = 1,500 ÷ 1,500 = 100%

Industry insiders often refer to “ROI” colloquially as ROAS (Return on Ad Spend) = Revenue ÷ Advertising Cost = 3,000 ÷ 500 = 600%. The key difference is that ROI measures profit, while ROAS measures revenue.

Annualized Return Rate: Adjusting for Time Dimension

A single ROI cannot reflect differences in investment periods. Suppose Scenario A has a 100% return over 2 years, and Scenario B has a 200% return over 4 years. Which is more worthwhile?

Annualized ROI formula: Annualized Return Rate(%) = [(1 + Total Return Rate)^(1/Years) - 1] × 100%

• Scenario A: [(1+1)^(1/2) - 1] × 100% ≈ 41.4%
• Scenario B: [(1+2)^(1/4) - 1] × 100% ≈ 31.6%

The conclusion is that Scenario A has a higher annualized return, indicating better investment efficiency.

ROI Benchmarking System at the Corporate Level

ROI not only measures individual investments but is also used to evaluate a company’s profitability. Three key indicators should be distinguished:

Example: A company has assets worth $1 million (loan of $500,000, shareholders’ equity of $500,000). It invests $100,000 in a project and earns $200,000 profit.

• ROI of the project = ((20-10) ÷ 10 = 100%
• If the company’s annual profit is $1.5 million, then ROA = 150 ÷ 100 = 150%, ROE = 150 ÷ 50 = 300%

Practical Ways to Improve ROI

From the ROI formula, increasing returns boils down to two paths: increase profit or reduce costs.

Stock Investment Perspective:

• Choose high-dividend stocks
• Select brokers with low commissions, reduce trading frequency
• But these adjustments have limited effect

Direct and Effective Approach: Select investment targets with higher ROI.

Generally, the ROI ranking is relatively stable: Cryptocurrency & Forex > Stocks > Indexes & Funds > Bonds. However, high ROI often comes with high volatility and risk, requiring cross-evaluation with indicators like volatility and valuation percentile (PE percentile).

For example, if a crypto asset’s volatility ratio is 7:3 compared to stocks, you can adjust your position sizes inversely to balance risk and return.

Quick Overview of High-Return Investment Methods

) CFD Contracts for Difference Low margin requirements (usually 20%), with obvious leverage effects. With $10,000, only $2,000 is needed to operate a single stock CFD, and a $500 profit yields a 25% ROI. This assumes choosing platforms regulated by reputable authorities.

Forex Margin Trading

The largest global trading volume, operates 24/7. Annualized returns can reach over 30%, but it is heavily influenced by international political and economic factors, requiring high trading experience. Stop-loss and take-profit settings are essential for protection.

Gold Investment

Functions as both a store of value and appreciation. In 2019, international gold prices increased by 18.4%, reaching an 8-year high. Amid escalating global economic volatility, gold has significant long-term holding potential.

Stock Investment

The US stock market has an average annual return of over 12% over 200 years, favored for its relatively low valuation and stable dividends.

Four Major Pitfalls Often Overlooked When Using ROI

1. Ignoring the Time Factor

Looking only at ROI figures cannot judge true efficiency. If Project X has a 25% ROI over 5 years, and Project Y has 15% over 1 year, comparing them directly is misleading. Annualized ROI should be used for comparison.

2. High Returns Imply High Risks

The logic that higher ROI equals better is dangerous. High-return assets tend to be volatile, and investors may panic and exit during downturns, resulting in losses.

3. Incomplete Cost Calculation Leading to Overestimation

In real estate investments, ignoring mortgage interest, taxes, insurance, maintenance costs can severely overstate ROI. All relevant costs must be included.

4. Ignoring Non-Financial Benefits

ROI only measures monetary returns and does not account for social or environmental benefits. In such cases, metrics like Social Return on Investment (SROI) should be used.

Conclusion: ROI is an important reference but not the sole decision factor. Reasonable expected returns should be based on multiple factors including risk tolerance, investment period, and capital scale.