2. Real rate of return when nominal is 5% and inflation is 2%
Real return ≈ Nominal return − Inflation rate.
- 5% − 2% = 3%
- Thus, the real rate of return is about 3% per year.
3. Which is more important: real return or nominal return? Why?
Real return is more important for understanding actual purchasing power growth. Nominal return ignores inflation, so it can look higher than true gains. Real return shows how much your money really grows in value each year.