Find the real rate of return for the investment you purchased for $100 five years ago, that has a current price of $110, and dividends of $2 per share. The inflation rate is 2%. (Round percentage to two decimal places.)
Answer (1)
To find the real rate of return on an investment, we need to account for the inflation rate. The real rate of return can be calculated using the formula:
Real Rate of Return = 1 + Inflation Rate 1 + Nominal Rate of Return − 1
First, let's calculate the nominal rate of return. The nominal rate of return takes into account the change in price and dividends received:
Initial Investment Price: $100
Current Investment Price: $110
Dividends Received: $2
The formula for the nominal rate of return is:
Nominal Rate of Return = Initial Price Current Price − Initial Price + Dividends
Plugging in the values: Nominal Rate of Return = 100 110 − 100 + 2 = 100 12 = 0.12
Thus, the nominal rate of return is 12%.
Next, let's convert the inflation rate into decimal form for the calculation:
Inflation Rate = 2% = 0.02
Now, using the formula for the real rate of return:
Real Rate of Return = 1 + 0.02 1 + 0.12 − 1
Real Rate of Return = 1.02 1.12 − 1 ≈ 0.0980
Therefore, the real rate of return is approximately 9.80%.
