Inflation and interest rates have the ability to change the returns on our investments, but do we understand how they affect them or pay a lot of attention to them?

(Image source: flickr.com, Chris Butterworth)

Inflation is the rate at which we have to discount our returns to get our real rate of return. For example, if we had a 10% return on our investment, but an inflation rate of 10% over the same amount of time, we would have the same purchasing power as before, so our real rate of return is 0. If we made the same return but the inflation rate is 5%, we would have a real rate of return of 110/105 – 1 =4.76%, or you can use 10-5 = 5%, instead, which gives a close estimate. But if inflation is higher than your rate of return, then you are actually losing purchasing …