Question

Give a detailed explanation: How should investment returns be measured? Do financial services companies have an incentive to provide nominal rather than true rates of return in their advertising? Should they be required to provide nominal, real, and true rates of return?

Answer 1

Currently most of the financial services companies provide nominal rate of return as their promotional approach. However, in reality the actual return one receives comes after deduction of taxes and various other exclusions. As a result, the real rate of return is lower than the nominal rate. There are some debates on if this practice is appropriate.

When we think about the financial services and organizations that provide these services, we need to remember that in most cases, these organizations cannot predict the amount of deduction one is likely to face. Taxation is often a very subjective matter and may vary across industries. However, these financial services need to promote their product/service to all industries. This is one of the key reason why nominal rate is used rather than real rate. Also the nominal rates make the offerings appear more lucrative.

Due to this challenge of variability, we should measure investment returns on their nominal rates.