Question

Consider the following information on large-company stocks for a period of years. Arithmetic Mean 12.9% 3.4 Large-company stocks Inflation a. What was the arithmetic average annual return on large-company stocks in nominal terms? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.) b. What was the arithmetic average annual return on large-company stocks in real terms? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.) Answer is complete but not entirely correct. a. b. Nominal return Real return 11.80 8.70 % %

Answer 1

(a)-The arithmetic average annual return on large-company stocks in nominal terms

The arithmetic average annual return on large-company stocks in nominal terms is 12.90% (The rate given in the question)

“Hence, the Nominal Return will be 12.90%”

(b)-The arithmetic average annual return on large-company stocks in real terms

The Real Rate of Return is calculated by using the following formula

Real Rate of Return = [(1 + Nominal Rate) / (1 + Inflation Rate)] – 1

Nominal Rate = 12.90%

Inflation Rate = 3.40%

Therefore, Real Rate of Return = [(1 + Nominal Rate) / (1 + Inflation Rate)] – 1

= [(1 + 0.1290) / (1 + 0.0340)] – 1

= [1.1290 / 1.0340] – 1

= 1.091876209 – 1

= 0.091876209 or

= 9.19% (Rounded to 2 decimal place)

“Hence, the Real Return will be 9.19%”