Introduction
So, you sold the last batch of bitcoins you had. But how do you know if you made a profitable trade? How do you know how much was it? How do you know that you made a better investment than gold or real estate? Could bonds or stocks or tradings have been better?
To answer all these questions, you need to calculate returns on your best defi crypto investments. But remember this, crypto investment has limitations and can cause you to lose money if not done right. Before you indulge, make sure you have learned the basics to understand the market. Crypto signals are a great way to get started and have an idea of how professionals find great entry points.
What is ROI?
ROI, short for Return on Investment, is a way to quantify the performance of your investment. A positive ROI indicates that you have made a profit, while a negative one indicates losses. Thus, ROI can be used to identify losses as well.
ROI is a concept that holds good even outside crypto and the stock market. So, if you have opened a new business, the returns that business gives you are the associated ROI of that business. In the end, it is the potential ROIs that drive the initial investment decisions.
How to Calculate Return on Investment?
Calculating ROI is a simple task. Let’s say you bought a cryptocurrency for a price A and its current price is B.
Then, ROI can be calculated as follows –
ROI = (Current value – Original cost)/ Original cost
Let’s say you bought Bitcoin for $50. Currently, the value of the cryptocurrency is around $100.
Here’s how you will calculate your return on the investment.
ROI = ($100 – $50)/$50
ROI = 1.
Your ROI on the investment is 1. If multiplied by 100, ROI gives ROR, i.e., the Rate of Return.
ROR = 1 * 100 = 100%.
This shows that you have made a gain of 100% on that investment.
But let’s say you used a wallet for Bitcoin that cost you $20. To calculate the real profit, you need to subtract this amount from the profit as well.
ROI = ($100 – $50 – $20)/$50
ROI = 0.6
ROR = 0.6 * 100 = 60%.
So, your real or net profit is 60%.
On the face of it, it looks like a great number. But ROI has its own limitations, some of which we will see in the next section.
Limitations of ROI
Return on Investment (ROI) is a simple concept. Anyone can wrap their head around it. However, it has certain limitations that hinder its usefulness.
- The first limitation is a risk. ROI doesn’t consider the risk associated with the investment. An investment might be a high reward, but high rewards often mean high risk as well. A high ROI would mean nothing if it all turns to dust in the end. Thus, ROI doesn’t quantify the possibility of losing your investment.
- The second limitation is the liquidity of the asset you are buying. Let’s say you own a house worth $100 billion. If you bought it for $1 billion, you already have a 100x return. However, if no one is willing to buy it off you, you practically stand at zero. But according to ROI, you should be a billionaire.
- Another limitation is that ROI fails to put time into its equation. A 100% return is massive if you get it in a year, not so if you get in a thousand. But ROI doesn’t concern itself with that.
Conclusion
ROI is a good measure to weigh your investments. But it fails to give a complete picture of things due to certain limitations. However, if you use it with complementary information and indicators, it can serve as a great tool in your investment arsenal.