Dollar-Weighted Return

Dollar-Weighted Return

Dollar-weighted return (also called Internal Rate of Return or money-weighted return) measures the actual return an investor earns by accounting for the timing and size of all deposits and withdrawals. Unlike time-weighted return, it reflects how well an investor timed their contributions.

How It Differs from Time-Weighted Return

Feature	Dollar-Weighted Return	Time-Weighted Return
Considers cash flow timing	Yes	No
Measures	Investor's actual experience	Fund/strategy performance
Affected by deposits/withdrawals	Yes	No
Best for evaluating	Individual investor results	Fund manager skill
Also known as	IRR, money-weighted return	TWRR, geometric return

Example: Why Timing Matters

Fund returns: Year 1: +30%, Year 2: -10%

Investor A (invests $10,000 at start, adds nothing):

• Year 1: $10,000 → $13,000
• Year 2: $13,000 → $11,700
• Dollar-weighted return: ~8.2% (same as time-weighted)

Investor B (invests $10,000 at start, adds $50,000 before Year 2):

• Year 1: $10,000 → $13,000
• Adds $50,000 (total: $63,000)
• Year 2: $63,000 → $56,700
• Dollar-weighted return: ~-5.2% (invested most money before the bad year)

Both investors owned the same fund, but Investor B's dollar-weighted return is negative because they added the most money right before the decline.

Calculation

The dollar-weighted return is the discount rate (r) that makes the present value of all cash flows equal to zero:

0 = CF₀ + CF₁/(1+r) + CF₂/(1+r)² + ... + CFₙ/(1+r)ⁿ

Where CF = cash flow (positive for contributions, negative for withdrawals/ending value)

Real-World Impact

Studies by Dalbar show the average equity fund investor earns 3-4% less per year than the fund itself — largely because of poor timing (buying high, selling low). This gap between fund returns and investor returns is captured by the difference between time-weighted and dollar-weighted returns.

Why It Matters

Dollar-weighted return reveals the true impact of your investment decisions — not just what the market delivered, but what you actually earned given your timing. It serves as a reality check, showing whether your contributions and withdrawals helped or hurt your overall results.