Fixed Income: Geometric Mean vs Arithmetic Mean

Your fixed income investments may create reasonably predictable returns, and the degree to which these returns are stable can be measured more accurately through finding a mean. The word "mean" most closely relates to the word "average," but it is an actual mathematical expression rather than just a vocabulary term. In fact, there is more than one way to calculate "mean."

Arithmetic Mean

The arithmetic mean of a set of numbers is determined by the formula most people will recall to find a mean: the sum of all the numbers divided by the total number of factors in the set. For example, the arithmetic mean of 8 and 2 is 8 + 2 = 10, 10/2 = 5

Geometric Mean

The geometric mean of a sum of numbers is slightly more complicated, but in most cases, it is more accurate. This expression is calculated by finding the product of all the numbers in the set and then finding a radical of that set based on the total number of values. This sounds complicated, but consider the same example above: 8*2 = 16; there are two numbers in the set, so you take the square root of 16, or 4. If there were three numbers in the set, you would find the cube root.

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