Investing basics
Nominal return is the change measured in money; real return adjusts for inflation to show the change in purchasing power. The exact relationship compounds rather than simply subtracting large rates.
Make it click
A wallet can contain more notes next year while buying fewer baskets of goods. The note count is nominal; the basket count reveals whether purchasing power actually improved.
Now put that into markets
Investment statements usually show nominal performance. Comparing the ending value with an appropriate inflation measure gives a real return for the same period and currency.
The exact real return is calculated by dividing one plus nominal return by one plus inflation, then subtracting one. Approximate subtraction is close only when rates are modest.
Match dates, currency and inflation measure. A household's personal spending pattern can differ from a broad consumer-price index, so measured real return remains an approximation to lived purchasing power.
Inflation data is revised and represents a basket, not every investor. Tax and fees can further reduce the purchasing power retained from a nominal gain.
Takeaway
