Real Return

An investment can grow in money terms while losing value in terms of what the money can buy. Real return removes the effect of rising prices.

A simple approximation is to subtract the inflation rate from the nominal return. If an investment earns 7% in a year when inflation is 3%, its real return is about 4%. The more precise calculation gives about 3.9%, because the investment's gain is also measured in money that has lost some value.

Real returns can be negative even when nominal returns are positive. A savings account paying 2% during a year of 5% inflation has a real return of about −3%, so the saver can buy less at the end of the year than at the start.

Real return is the most meaningful measure for long-term goals such as retirement, because what matters is the lifestyle savings can support, not the number in the account.

Historically, different asset classes have produced very different real returns over long periods. Shares have tended to outpace inflation by more than bonds or cash, but with much greater short-term volatility.