Basic Math

The Real Rate of Return

If the teacher called you to the chalkboard to do some basic math, you might be asked to solve a problem about the real rate of return.

Here is the story problem.  The interest rate on US ten-year treasuries (as we write this post) is 1.46 percent.  Meanwhile prices are rising at a 5 percent annual rate (according to the CPI for the last 12 months.)  Given these conditions, If John invests in those treasuries, what it his real rate of return? 

1.46 percent (Treasury Rate)

+

– 5.0 percent (Inflation Rate)

____________________

– 3.54 percent Real Rate of Return 

The inflation rate is the rate at which John’s (and everyone else’s) dollars are losing purchasing power.  Because the dollar is losing value at 5 percent rate, John’s investment yield of 1.46 percent is not enough is not enough to keep up.  He may look at the paperwork from his stockbroker and see it shows a profit, but that is just a “nominal” profit, unadjusted for what is really happening to his money. 

The ten-year treasury rate has been even lower than our example for most of the last year and a half.  As for the inflation rate, it is headed higher than in our example.  For the last 3 months, March, April, and May, the CPI is up 2 percent (which annualized is 8 percent inflation).  The dollar has lost more value in the last three months than the full year treasury return.

John’s real rate of return is negative.  His is being decapitalized by the explicit policy of the Federal Reserve.  

John is getting killed.  And so are many Americans.  Even older people, who should be managing their golden years conservatively, have been forced by the Fed’s interest rate manipulation to make increasingly risky investments to earn the normal returns they need to sustain them in retirement.  By the way, we think the next great tragedy in American financial lives will be the staggering losses suffered by those who have ventured so far out on the risk curve.  There is a tragedy among seniors in the making, courtesy of chairmen Powell, Yellen, Bernanke, and Greenspan.

The last time we saw negative real rates of return like today’s was in the 1970s.  You may have heard how gold prices exploded to new highs in the 1970s when people began to realize what was happening to their money.  

So far only the few realize what is happening to their money.  Only the few have taken prudent steps to protect their wealth, their retirement, and their families.  When the great mass of the people awaken, gold and silver prices will explode again, and people will wait in lines that go down the street and around the corner to exchange their progressively devaluing dollars for real money: gold and silver.

Our advice is for you to beat the rush.  Do not wait for higher prices.