Real Rate Of Return

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DEFINITION of 'Real Rate Of Return'

The annual percentage return realized on an investment, which is adjusted for changes in prices due to inflation or other external effects. This method expresses the nominal rate of return in real terms, which keeps the purchasing power of a given level of capital constant over time.

BREAKING DOWN 'Real Rate Of Return'

Adjusting the nominal return to compensate for factors such as inflation allows investors to determine how much of their nominal return is actually real return.

For example, let's say your bank pays you interest of 5% per year on the funds in your savings account. If the inflation rate is currently 3% per year, then the real return on your savings today would be 2%. In other words, even though the nominal rate of return on your savings is 5%, the real rate of return is only 2%, which means that the real value of your savings only increases by 2% during a one-year period.

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