Capital Gains Yield (CGY): Definition & Formula | [Your Brand]

Capital gains yield (CGY) is the price appreciation on an investment or a securityEquity Capital Market (ECM)The equity capital market is a subset of the capital market, where financial institutions and companies interact to trade financial instruments expressed as a percentage.

 

 

Capital Gains Yield Formula

CGY = (Current Price – Original Price) / Original Price x 100

 

Capital Gain is the component of total return on an investment, which occurs as a result of a rise in the market price of the security.

Below is a screenshot of the formula used to calculate CGY (the same numbers as the example above).

 

 

 

Calculating Capital Gains Yield

Consider the following example. John buys a share of company XYZ at a market price of $100. Over the course of one year, the market price of a share of company XYZ appreciates to $150. At the end of the year, company XYZ issues a dividend of $5 per share to its investors.

The Capital Gain Yield for the above investment is (150-100)/100 = 50%.

 

Also note that:

The Dividend Gain Yield for the above investment is 5/100 = 5%.

The total return from the investment is therefore 55%.

 

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Interpreting Capital Gain Yield

It is difficultComparable Company AnalysisThis guide shows you step-by-step how to build comparable company analysis ("Comps") and includes a free template and many examples. to say much about an investment from its Capital Gain Yield alone. We have seen how it is possible for the Total Gain from an investment to be larger than the Capital Gain. However, we have not commented on the size of this difference.

Let us analyze an extension of the previous example. Unlike John, who invested in company XYZ, Mark invested in company ABC, which had a market price of $100 per share at the start of the year. At the end of the year, company ABC has a market price of $105 per share. In addition, company ABC issues a dividend of $50 per share.

The Capital Gains Yield for Mark’s investment is (105-100)/100 = 5%, which is much less than the 50% that John receives.

However, Mark’s dividend gain yield is 50/100 = 50%, which is greater than what John receives.

Which investment would be considered superior?

Both John’s investment into XYZ and Mark’s investment into ABC give a total gain of 55%. Thus in isolation, it is difficult to interpret much about an investment from its Capital Gain Yield alone. In fact, it is possible for an investment to give a positive total return (total gain) despite posting a capital loss.

Consider the case where the price of company ABC falls from $100 to $95, but ABC gives a dividend of $60 per share. The total gain would remain 55% (5% capital loss and 60% dividend gain).

In practice, every dollar that is paid out as a dividend is a dollar that the company cannot reinvest back into its business. Therefore, company XYZ will be seen as a company with high growth potential because its profits of XYZ are redirected back into the company’s growth and not distributed to shareholders, whereas company ABC will be seen as a company with low growth potential because its profits are distributed to shareholders and not used for company growth.

 

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Practical Applications of Capital Gain Yield (CGY)

Because the calculation of Capital Gain Yield only involves the market price of a security over time, it can be used to analyze the degree of fluctuation in the market price of a security.

Previously, we looked at two investments – John’s investment into XYZ and Mark’s investment into ABC. Both of these securities, XYZ and ABC, have generated income for John and Mark, respectively. Thus John and Mark both must pay tax on this income.

A change in the market value of a security is not relevant for tax purposes until it is realized as a capital gain (or loss) by sale or exchange.

If a security purchased for $100 appreciates to a value of $150 in a year, no tax is due on the unrealized capital gain. But if it is sold for $170 two years after purchase, the difference of $70 must be declared as capital gains realized at the time of sale, and tax must be paid at the rate applicable to it.

For simplicity, let us assume that both of the investments considered were undertaken for the period of one year.

If capital income is taxed at 10% and dividend incomeAccounting For Income TaxesIncome taxes and their accounting is a key area of corporate finance. There are several objectives in accounting for income taxes and optimizing a company's valuation. at 15%, which investor, between John or Mark, is better off?

 

John’s Investment in XYZMark’s Investment in ABCCapital Gain = $50Capital Gain = $5Capital Gains Tax = (10/100)*50 = $5Capital Gains Tax = (10/100)*5 = $0.50Dividend Gain = $5Dividend Gain = $50Dividend Gain Tax = (15/100)*5= $0.75Dividend Gain Tax = (15/100)*50 = $7.50Total Gain = $49.25Total Gain = $47

 

We can see that when there exists a capital gains tax of 10% and a dividend gain tax of 15%, then John’s investment is superior to Mark’s. Generally, dividend gain is considered ordinary income and thus, is usually taxed at a progressive rate.

 

Related Readings

To learn more, launch our financial analysis courses online! Also, see the CFI resources below:

• Capital Asset Pricing ModelCapital Asset Pricing Model (CAPM)The Capital Asset Pricing Model (CAPM) is a model that describes the relationship between expected return and risk of a security. CAPM formula shows the return of a security is equal to the risk-free return plus a risk premium, based on the beta of that security
• Dividend IncomeAccounting For Income TaxesIncome taxes and their accounting is a key area of corporate finance. There are several objectives in accounting for income taxes and optimizing a company's valuation.
• Retained Earnings
• Financial modeling guideFree Financial Modeling GuideThis financial modeling guide covers Excel tips and best practices on assumptions, drivers, forecasting, linking the three statements, DCF analysis, more