The "Potential Annual Return" (PAR) is the long-term probable return for the portfolio in question before inflation. Riskalyze displays PAR in both the Current and Proposed Portfolio views. Please note that the PAR will not show on printed reports.
How PAR is Calculated
Potential Annual Return is simply the return located in the middle of the 6 month projected range, annualized. Potential Annual Return takes into account return and volatility metrics, dividend payouts, internal expenses charged by mutual funds, ETFs, and VA Subaccounts, as well as any Advisory Fees. The PAR calculation does not include inflation and assumes that the risk profile of the portfolio will not change through market cycles in future years.
PAR is meant to be a planning guide to help advisors identify a long-term projected return for planning purposes. In practice, many advisors use this rate of return assumption in retirement planning calculations.
How Market Assumptions affect PAR
The following information applies only if Advanced Risk Modeling is turned on.
When using the Advanced Risk Modeling, Riskalyze combines the aforementioned standard deviation and correlation statistics (computed from Jan 1, 2008 - present) with an S&P 500 expected annual return, plus a given interest rate environment, based on the market assumption chosen. The PAR will change in lock-step with the inputs of the advisor-selected market assumption.
For example, "Long Term Consensus" demonstrates the effects of a +3.75% gain of the S&P 500 over the next 6-months (7.64% annually). We believe that there is no long-term consensus on the direction or magnitude of change on the 10 Year Treasury yield, so our default is set to 0bps (flat outlook). The long-term consensus of +3.75% is derived from 827 months of data from 1950 to present.*
With those inputs, Riskalyze generates a 6 month projected range and corresponding Risk Number. The PAR is the mean of the 6 month projected range, annualized.
Advisors are urged NOT to focus solely on the PAR, as it is not the likely return over the next 1 year, it is the likely average annual return over a full market cycle. The PAR is not likely to be hit one year after another. It is a small target. Instead, we urge advisors to focus attention on the big target = 6 month projected range.
* We recently enhanced our Long Term Consensus market assumptions. Click HERE to read the announcement from Riskalyze CIO Mike McDaniel.