Archive / Investment Adviser (Level 2) / Miscellaneous Aspects of Retirement Planning

nism-series-xb-real-discount-rate-11-percent-return-10-percent-inflation[ INVESTMENT ADVISER (LEVEL 2) ]

In Case 1, Mr. Z assumes an investment return of 11% p.a. and an inflation rate of 10% p.a. post-retirement. What is the exact inflation-adjusted real discount rate to be used for calculating his retirement corpus?

[ A ]1.0000%

[ B ]1.8900%

[ C ]0.9091%[ CORRECT ]

[ D ]2.1000%

Takeaway

With an 11% investment return and 10% inflation, the exact geometric real discount rate is 0.9091%, so option C is correct.

Derivation

Real Rate = ((1 + nominal return) / (1 + inflation)) - 1 = ((1.11) / (1.10)) - 1 = 1.11/1.10 - 1 = 0.0090909, or 0.9091%. This tests the same geometric real-rate formula used throughout the case studies, specifically checking that candidates apply it to the correct pair of inputs (11% return, 10% inflation) for Mr. Z's post-retirement scenario, rather than confusing it with the simple-subtraction shortcut or with the rate pairing used in a different case (such as Jaspreet's 9%/8% or Adil's 8%/6%).

Why the others fail

A — 1.0000%

This is the simple subtraction result (11% - 10%), which ignores the exact geometric compounding formula and understates the true real rate.

B — 1.8900%

This is the real rate applicable when return is 8% and inflation is 6% (as in Adil's case), not the 11%/10% pairing used here for Mr. Z.

D — 2.1000%

This figure is calculated using an incorrect denominator in the real-rate formula, producing a result higher than the correct geometric value.