RESEARCH
Inflation and Real Returns: The Only Number That Counts
Nominal return tells you what changed in your account. Real return tells you what changed in your buying power.
KEY TAKEAWAYS
- Subtract inflation before judging any return.
- Cash is rarely safe in real terms over long periods.
- Assets with pricing power defend real value best.
Nominal versus real
A 9 percent return in a 12 percent inflation environment is a loss of purchasing power. The account balance rose and the investor got poorer. Every performance figure should be read against the local inflation rate before any conclusion is drawn.
The cost of holding cash
Cash feels safe because its nominal value never falls. Its real value falls every single year that inflation runs above the deposit rate. Over a decade that erosion is usually larger than the drawdown the investor was avoiding.
What defends real value
Businesses that can raise prices, contracts linked to inflation, and real assets tend to hold purchasing power over long periods. None of them do it smoothly, which is exactly why they pay a premium to the investor who can sit still.
This note is published for information only. It is not personal investment advice, and the value of investments can fall as well as rise.