thommo77

For single year periods you should use arithmetic mean, multiple year periods geometric. Alt. #2 doesn't make sense because you'd be taking an arithmetic mean of a geometric mean. You can take geometric means of arithmetic figures, but not the other way around because the geometric mean is a exponential figure whereas arithmetic average is additive.


If you work the two methods out on a spreadsheet you'll find theres a difference between the two which is due to the compounding of interest. It would grow the greater the variability in returns. Think about it, with Alt #2 your taking 1000 stocks and computing their geometric means over 5 yrs; 1000 separate compounding interest rate paths. Whereas with Alt #1 your only taking the geometric mean of 10 separate asset classes.