Understanding of Appreciation in Finance

In general terms, Appreciation is a rise in the value of an asset in some time. The progress can happen for several reasons, depending on the weakening supply or increased demand and changes in interest rates or inflation. Appreciation is the opposite of depreciation, which means a lessening in value over time.

KEY TAKEAWAYS

• Appreciation is a rise in the value of an asset in some period of time. 
• Appreciation is the opposite of depreciation, which lowers an asset’s value in some period. 
• The appreciation rate: occurs when an asset increases in value. 
• Capital appreciation indicates the rise in the value of financial assets, for example, stocks.
• In the foreign exchange markets, Currency appreciation relates to an increase in the value of one currency against another.

How it Works

Appreciation applies to an increase in assets, including bonds, a stock, currency, or real estate. For example, the name capital appreciation refers to the rise in the value of financial assets, including stocks. It can occur for purposes such as improved company’s financial execution.

It happens because the value of an asset appreciates does not fundamentally mean its owner obtains the rise. If the owner changes the asset’s value at its higher price on their monetary statements, this represents the rise.

Calculating the Appreciation Rate

The appreciation rate is essentially equal to the CAGR – compound annual growth rate. Therefore, you take the final value, divide by the opening value, then use that to 1 split by the amount of holding periods. In the end, you deduct one from the result. 

However, you need to understand the investment’s initial and future value to calculate the appreciation rate. It would help if you also kept in mind that you need to know how long the asset’s Appreciation will last.

As an example, in 2016, Tom bought a house for $100,000. In 2021, the value has risen to $125,000, which means that the house has appreciated by 25%, which is equal to $100,000 during these five years. CAGR or the appreciation rate is equal to 4.6%.

Appreciation against Depreciation

When accounting, Appreciation applies to an upward adjustment of the asset’s value held on a firm’s accounting books. The most common adjustment on the asset’s value in accounting is usually depreciation, known as a downward adjustment.

As a general rule, some assets experience Appreciation, while others depreciate over time. Assets with a finite life experience depreciation instead of Appreciation.

Once the asset loses economic value after its usage, it experiences depreciation. Those assets can be a piece of machinery. In accounting, while the upward trend of assets is less frequent, trademarks might experience an upward movement in value because of the increased brand recognition.

Precious metals, stocks, and real estates are assets purchased for the future as investors think that their value will grow in time. The opposite idea applies to computers, automobiles, and physical equipment that decrease after some time.

Example:

For example, an investor bought a stock for $10, equating to a dividend yield of 10%. After a year, the stock can trade at $15 per share. Therefore, the investor will receive a dividend equal to $1. From capital appreciation, the investor gets a return of $5 after the stock price goes from the initial cost of $10 to a market value of $15. The total return is $6, which is 60% of the value.

China’s role as a significant economic power in the world corresponded with price changes in the exchange rate for its yuan. In 1981, the yuan started to increase in value against the dollar. This process ended in 1996 when $1 became equal to 8.28 yuan. The dollar remained strong until 2005. It meant cheaper labor and manufacturing costs for companies in America. It also helped American goods be competitive worldwide and in the U.S. because of their affordable manufacturing possibilities with cheaper labor. However, after 2005 China’s yuan started to recover, and even in 2021, it’s still near 6.4 yuan.1

Frequently asked questions

What Is an Asset that can experience future Appreciation?

It can be an asset that can experience an increase in value—for example, stocks, real estate, bonds, and currency.

What can be a Good House Appreciation Rate?

It can be relative to the asset that can involve risks. A reasonable appreciation rate for a particular currency is different from the rate for real estate. 

What does Capital Appreciation mean, and how is it applied?

It is the increase in the value of an asset, including real estate and stocks.  

The Bottom Line

Overall, when an asset experiences an increase in value, this process is called an Appreciation. Such assets are currency, stocks, or real estate. This term goes to the opposite of depreciation. It occurs when an asset decreases in value over time and usage. Both dynamics have reasons that can be recognized as supply and demand changes, interest rate changes, or various other reasons.