If you don’t know already, inflation is the rate at which prices increase over time. Typically, governments aim to keep inflation at around 2% per year, though it can sometimes go above 10%.
Inflation is a problem for everyone because it makes your money less valuable over time. Investing is a good way to counteract inflation and maintain the value of your money over time.
It’s important to remove inflation from your investment returns, in order to understand your real rate of return. The real rate of return is the performance of your investments, minus the inflation rate.
The real rate of return formula is simply: ((1 + investment returns) ÷ (1 + inflation rate of year)) – 1.
An example would be ((1 + 10%) ÷ (1 + 2%)) – 1, which equals 7.84%.
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