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Investing is key to securing your financial future, but taxes, fees, and inflation can take a considerable bite out of your returns. To understand the true impact of these factors, investment firm Thornburg analyzed the "real real returns" of various investments.
Thornburg explains in their research:
Relying solely on nominal returns can be misleading when planning your investments and asset allocation. This is because nominal returns are greatly reduced by taxes, fees, and inflation. To create more effective portfolios, it's important to examine the real real returns of different asset classes over extended periods of time.
As an example, Thornburg presents the following. The chart below shows how a hypothetical $100 invested in the S&P 500 from 1983 to 2013 would have grown. Before taxes, fees, and inflation, the return would be $2,346, which represents an annual return of about 11%.
After accounting for all those additional costs, the "real real return" decreases to $570, which represents a 5.97% return.
Naturally, that's still a better return than leaving your $100 in a low-interest savings account. The numbers are not intended to discourage you from investing. It's important to note that the study assumes a 0.50% rate for expenses and fees, which is a reasonable average. However, depending on your assets and the firm you choose, your fees may be lower. For instance, check out our article on the Five Best Investment Firms.
The goal of the study is to give you a clearer understanding of the actual returns you can expect from investing, so you can plan better. For example, they recommend prioritizing investments in tax-advantaged accounts, if possible. This is something we covered in our discussion on the Ladder Method.
Take a look at the full study for more details on the "real, real return" of your investments and ways to improve it.
