Real returns on asset classes
It is my understanding that the asset classes in Monte Carlo that are already in the program are in real rates of return as opposed to nominal. If so, I am assuming that these rates represent the average real return over a long period of time that would include differing inflation rates in various years. If the real return is what you can expect to earn not considering inflation, then shouldn't we just set the inflation rate at zero in the assumptions when running different models? It would seem to me that this would be the case as the assets are expected to earn the real rate regardless of the inflation rate. I hope you can understand what I am asking and help me get my head around this. Thank you.
RSS
No. The problem is that nobody publishes real rates of return for assets in the real world (TIPS or other inflation protected instruments are the only exceptions). Since you're generally going to have nominal interest rates, then setting inflation to 0 will inflate the effect of any nominal interest rates you have set in the program.
Best,
Dick Munroe
As I understand it, you are saying that the rates of return in the program for various asset classes are nominal rates of return. Is that correct?
No, they are real, we convert them to nominal internally. The point is that you can't get anybody to give you a real rate of return for any investment instrument, all the published financial interest rates will always be in nominal terms. The reason we can publish real rates of return for the canned assets is because they are "expected", based on the longest available return data and have been inflation adjusted.
Best,
Dick Munroe