Armand buys a 10-year, $10,000 bond that pays him $500 every year for 10 years and repays the face value in year 10. During the 10-year period, the rate of inflation holds steady at 3% per year. The real rate of return on Armand's investment is

Question

Quizplus · Accepted Answer

The real rate of return adjusts the nominal rate of return (the stated return without considering inflation) for the effects of inflation. Armand's bond has a nominal return of 5% ($500 annual interest on a $10,000 investment). To find the real rate of return, we use the formula: (1 + nominal rate) / (1 + inflation rate) - 1. Plugging in the values: (1 + 0.05) / (1 + 0.03) - 1 ≈ 0.0194 or 1.94%, which rounds to approximately 2%.

Armand Buys a 10-Year, $10,000 Bond That Pays Him $500