The Quiet Danger of Non-Inflation-Adjusted Stock Returns

In today’s Wall Street Journal, E.S. Browning has written a quietly important article (gated) about the fact that stock-market returns are almost never adjusted for inflation. While most shrewd investors factor in this omission, my sense is that a great many people never think about it, and therefore significantly overestimate their investment gains.

As with most things in life, this problem is a result of misaligned incentives. As Browning deftly puts it:

Controlling for inflation takes extra work and makes stock gains look punier, so it is easy to see why stock analysts almost never do it. The media almost never do it either. But other things do get measured in real dollars. When economists report whether the economy is growing, they account for inflation. When analysts judge long-term gains in commodities such as gold or oil, they often adjust for inflation. … Because analysts almost never do the same with stocks, it leaves investors with an exaggerated view of their portfolios’ performance over time.

It isn’t so hard to find information about inflation-adjusted returns. And there are plenty of other important investment factors that are kept too quiet — returns that factor in dividend gains, for instance, and returns minus the eventual cap-gains tax. But it is a telling fact that something as basic as inflation is often left out of the investment story. Of course, it is in the interest of much of the financial-services industry to do so.

Browning highlights a money manger in Santa Fe named Garrett Thornburg, who:

… calculates what he calls “real-real” returns, adjusting the stock performance not only for inflation but also real-world drags such as taxes and fees. Nominally, a dollar invested in the stocks of the Standard & Poor’s 500-stock index at the end of 1978 had blossomed to $22.88 at the end of 2008, including dividends, a sweet gain even after the 2008 meltdown. But once estimates of inflation, taxes, and costs are removed, he figures, the investment was worth $3.76.

That said, such a return beats most alternatives. But the “real-real” value of stocks does make you appreciate how so many people got so jazzed about the spike in housing prices over the last decade: it’s exciting to see inflation working in your favor day after day.


I did an inflation-adjusted DOW index analysis once. Essentially, you end up with a very small advantage for stocks from 1900. In 30-year returns vs. inflation, DOW only beat inflation something like 5 out of 9 times, barely better than chance. You need to go to 50-year returns to have a definite win.

US treasuries, especially the inflation-protected kind, do pretty well long term with less variance than the major stock indices.

Of course, this analysis didn't take into account dividends, which I think would have made stocks significantly more attractive, but that's somewhat balanced by the capital gains tax.


I think there is already a word describing those that value their investments the terms of US dollars: poor.


When considering investments against each other, I compare everything against a dollar of cash, not against an imaginary inflation-adjusting dollar of investment opportunity I don't have.


I am an investment adviser and rarely present inflation-adjusted returns to my clients, for all of the reasons detailed in this post.

J. Daniel Smith

It would be interesting to compare such numbers to that oft-used inflation hedge, gold. Given gold's long term popularity as a store of value, it wouldn't surprise me that factoring inflation into stocks would make gold look more attractive than it otherwise does.


Real estate returns are also another culprit where people forget to factor inflation in to the mix, especially when they stay in a place for a long time.

Also, depending on what you want to buy would depend on your inflation rate. I'm sure your 1978 dollar would buy 2 loaves of bread, but would buy about 12 loaves of bread today, at about a $1.50 a piece after 20% tax on your capital gain. That's 600% value gain. Yet if you were to buy gold in each case, your $1 in 1978 would have purchased 0.00512oz of gold (@ $195) and your 18.50 (22.88 - 20% tax on gain) in 2008 would have purchased 0.02056 oz (@ $900) which would be a value gain of 330% (I think . . . I don't think I did my math right here). So how do you really know the value of your investment until you actually buy something . . . and then you'd have to get the inflation rate for that item and go back and calculate your value return.

No wonder people just ignore it and use nominal returns.



analagous to sub prime marketing: omitting future financial calibrations to the present transaction


I would like to highlight Garrett Thornburg's comment and again point out that government cannot tax corporations, taxes can only tax shareholders.

That is, for every percentage increase in the corporate rates is one less percentage that the shareholder will receive in a dividend or price of a stock.


I, too am an investment advisor. While I have models that will take inflation into account, it is difficult to compete with people who don't. So, I don't. Of course, I don't limit my clients' portfolios to the S & P or the Dow. Historically, small cap stocks outperform nearly all other asset classes.


Jimmy--dividends would be a huge part of the real return! You can't exclude them. Average Dow yield over the last 100 years is something in the range of 2-4%. That's a powerful boost to their real return.


So, has Thornburg done an analysis of Warren Buffett's portfolio or of other prominent investors to show where they've won and lost in real dollars?

Has anyone done forensic analyses of companies like Enron to see how much people actually lost on stock as opposed to the amounts they thought they'd lost?


I have long suspected the returns of the stock market and once did an analysis of the after-inflation returns of the S&P for a typical investment span (40 years), assuming gradually adding to your holdings monthly. I found that for several years in the 1970s, you would have barely have made any return at all on your investment, after adjusting for inflation.

Too many analysis assume 0 inflation, and that your entire purchase was done at the beginning of the term, instead of slowly over the span of many years.


I knew it!

My millions aren't any good after all.


$1.00 to $3.76 in 30 years is 4.5%/year. Much better than TIPS are paying now. But back in 1999, TIPS were paying close to 4%. Those of us who understood investing sold all our stocks then and replaced them with TIPS and made a killing, with none of the inflation risk involved with putting all our money in long nominal bonds (which have also done well since then).


Control Inflationby Dec? Is there any " ELECTION " coming nearby? No other Manifesto to fool Citizens? Is Rahul Gandhi the next PM in Dec?