Real Rate of Return

The real rate of return, is your return on investment (the nominal rate) after it has been adjusted for inflation.  It is expressed as a percentage and is usually calculated annually, as shown below:

 The real rate of return on investments after being adjusted for inflation

The real rate of return on investments after being adjusted for inflation

Investment A
Investment A has achieved a positive nominal return of 3.00%, it has failed to keep up with inflation.  The real return has been -1.50%.  This is because prices have increased with inflation at rate of 4.50%.  As prices go up, money loses purchasing power.  If you deposited $100 in investment A, you'd have $103 after one year.  However due to inflation, you'd need $104.50 for your $100 to have the same purchasing power.    Even though you have more money, you can buy less with it.  This is why Investment A has a real rate of return which is negative

Investment B
Investment B has achieved a nominal return of 5.00%.  The real rate of return is 0.50%.  It has outpaced inflation by 0.50%.  Money deposited in Investment B for 12 months will gain purchasing power, as long as the investment continues to outpace inflation.

As we can see from the above examples, it is possible for your money to lose value even while it is growing in nominal terms.  Inflation is one of the financial risks associated with any investment.

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