CFA Level I Exam · Returns of Financial Assets and Instruments
Gross, Net, Real and Leveraged Returns for CFA Level I
Updated 7 October 2026 · Fact-checked
These measures adjust a basic return for costs, tax, inflation or borrowing. Gross return is before fees; net return is after fees. After-tax return deducts tax. Real return removes inflation: (1 + nominal) ÷ (1 + inflation) − 1. Leveraged return is the gain or loss on your own equity after borrowing costs.
Understand Other Return Measures: Gross, Net, Real and Leveraged
A plain holding period return tells you how much an asset gained. It does not tell you what you actually keep. Other return measures fix this by adjusting the basic return for something specific.
Gross return is the return earned by the asset manager before deducting management fees, administrative costs and custody fees. It may still include trading costs, depending on the definition. Net return is what the investor receives after those fees and expenses are deducted. The gap between the two is the cost of running the investment.
Pre-tax return ignores tax. After-tax return deducts taxes on income and realized gains. If an investor pays tax at a rate t on a pre-tax return, the simple after-tax return is pre-tax return × (1 − t). Be careful: tax rates on dividends, interest and capital gains can differ, and unrealized gains may not be taxed yet.
Nominal return is the return in current money terms. Real return is the return in terms of purchasing power, after removing inflation. The exact link is (1 + real) = (1 + nominal) ÷ (1 + inflation). The shortcut real ≈ nominal − inflation is only an approximation. It works for small rates and fails when inflation is high.
Leveraged return is the return on your own capital when you borrow to buy more of the asset. Borrowing magnifies gains and losses. You compute it as the gain on the whole position, less interest on the loan, divided by your own equity. If the asset return is higher than the borrowing cost, leverage raises your return. If it is lower, leverage hurts you.
Key formulas to remember
- Net return (approximate)
- Net return ≈ Gross return − Fees and expenses
- Works when fees are stated as a percentage of assets. Check whether fees are deducted from value or from return.
- After-tax return
- After-tax return = Pre-tax return × (1 − tax rate)
- Use only when one tax rate applies to the whole return. Otherwise tax each component separately.
- Real return (exact)
- Real return = (1 + nominal return) ÷ (1 + inflation rate) − 1
- Use this when asked for the exact real return.
- Real return (approximation)
- Real return ≈ Nominal return − Inflation rate
- Only a close estimate when rates are small. It overstates the exact real return whenever inflation is positive, and the gap grows as rates rise.
- Leveraged return
- rL = [rP × (VP) − (VB × rB)] ÷ VE, equivalently rL = rP + (VB ÷ VE) × (rP − rB)
- VP = total position, VE = own equity, VB = borrowed amount, rP = asset return, rB = borrowing rate. VP = VE + VB.
How to solve Other Return Measures: Gross, Net, Real and Leveraged questions
Identify which adjustment the question asks for, then apply it in the right order with the right base.
- 1Read the stem and name the measure: gross, net, pre-tax, after-tax, real or leveraged.
- 2Write down all given rates as decimals and note what each rate applies to (asset, loan, inflation, tax).
- 3If the question has several adjustments, decide the order. Usually fees come first, then tax, then inflation.
- 4For tax, check whether one rate applies or whether income and gains are taxed differently.
- 5For real return, use the exact formula (1 + nominal) ÷ (1 + inflation) − 1 unless the question asks for an approximation.
- 6For leverage, find equity, borrowed amount and total position first. Then compute the position gain, subtract interest, and divide by equity.
- 7Check the sign and size. The leveraged return is higher than the asset return only if rP > rB. Otherwise it is lower than the asset return. Real return should be below nominal when inflation is positive.
- 8Pick the option that matches your answer. Options run smallest to largest, so check the order as a sanity test.
Quickest way: Quick checks for three-option MCQs
When to use it: Use when you have about 90 seconds and the options are close together.
- For real return, compute nominal − inflation first. The exact answer is always slightly lower than that whenever inflation is positive.
- For leverage, use rL = rP + (VB ÷ VE) × (rP − rB). It avoids finding dollar amounts.
- For after-tax, multiply by (1 − t). Do not subtract t from the return.
- For a real return question with positive inflation, eliminate any option larger than the nominal return. For a leverage question, eliminate any option smaller than the asset return when rP > rB, and any option larger than the asset return when rP < rB.
- Use the calculator only for the exact real return division.
Common mistakes in Other Return Measures: Gross, Net, Real and Leveraged
Dividing leveraged gain by total position instead of equity.
The asset gain is on the full position, so students forget the investor only put up part.
Fix: Always divide the net gain after interest by your own equity.
Using nominal − inflation when the question asks for the exact real return.
The approximation is easy and familiar.
Fix: Use (1 + nominal) ÷ (1 + inflation) − 1 whenever the stem does not say approximate.
Subtracting the tax rate from the return.
Students confuse a percentage of the return with percentage points.
Fix: Multiply the pre-tax return by (1 − t).
Forgetting to subtract interest on the borrowed amount.
The asset return stands out and the loan cost is a second step.
Fix: Write the interest as a separate line before dividing by equity.
Treating gross and net as the same.
Both are described as total return in casual talk.
Fix: Gross is before manager fees and expenses. Net is after them. The question wording decides.
Applying leverage to a loss and expecting a smaller loss.
Students think of leverage as only a boost.
Fix: Leverage magnifies both directions. If rP < rB, the leveraged return is worse than the asset return.
Worked examples
Example 1
A fund earns a gross return of 9.0% in a year. Management fees and expenses total 1.2% of assets. Inflation is 3.0%. Calculate the exact real net return, to two decimals. Options: (A) 4.66% (B) 4.80% (C) 6.00%
Show the solution
- Net return = 9.0% − 1.2% = 7.8%.
- Real net return = 1.078 ÷ 1.03 − 1.
- 1.078 ÷ 1.03 = 1.04660.
- Real net return = 4.66%.
- Option B (4.80%) is net return minus inflation (7.8% − 3.0%), the approximation, which overstates the exact answer. Option C (6.00%) is gross return minus inflation (9.0% − 3.0%), which uses the wrong return. Only A matches the exact formula applied to the net return.
Answer: A (4.66%)
Example 2
An investor has €50,000 of her own money and borrows €50,000 at 4% to buy a €100,000 portfolio. The portfolio returns 10% over the year. What is the return on her equity? Options: (A) 10% (B) 12% (C) 16%
Show the solution
- Position gain = 10% × €100,000 = €10,000.
- Interest cost = 4% × €50,000 = €2,000.
- Net gain = €10,000 − €2,000 = €8,000.
- Return on equity = €8,000 ÷ €50,000 = 16%.
- Check with the shortcut: 10% + (50,000 ÷ 50,000) × (10% − 4%) = 16%.
Answer: C (16%)
Exam tips
- Read whether the question wants the exact or the approximate real return. The stem usually signals it.
- In leverage questions, write equity, borrowed amount and total position before calculating.
- Expect questions that combine steps, such as gross to net to real. Do them in the order stated.
- Use the options as a check. With positive inflation, the real return must be below the nominal return.
- There is no penalty for wrong answers, so if you are short on time, eliminate impossible options and guess.
Practice questions from Returns of Financial Assets and Instruments
- A fund returned +30%, −20% and +10% in three consecutive years. The geometric mean annual return is closest to:
- An analyst wants a single measure of the compound annual growth experienced by an investor over several years of varying returns. The most a…
- An investor buys a stock using 40,000 of her own money and 60,000 borrowed at 5% annual interest. At year end the stock is worth 108,000 and…
- An investor earns a nominal return of 6.0% in a year when inflation is 2.5%. Using the exact relationship, the real return is closest to:
- A fund earns a return of 1% each month, and returns are compounded. The annualized effective return is closest to:
Other Return Measures: Gross, Net, Real and Leveraged in other exams
The same ground in other exams, if you are preparing for more than one or want another angle on it.
Other Return Measures: Gross, Net, Real and Leveraged: frequently asked questions
What is the difference between gross and net return?
Gross return is before management fees and other expenses. Net return is after them. Net return is what the investor actually receives.
How do you calculate real return in CFA Level I?
Use (1 + nominal) ÷ (1 + inflation) − 1. The shortcut nominal − inflation is only an approximation and is less accurate when rates are high.
How do you calculate after-tax return?
Multiply the pre-tax return by (1 − tax rate) when one rate applies. If income and capital gains are taxed at different rates, tax each part separately and then combine.
Does leverage always increase return?
No. Leverage raises the return only when the asset return exceeds the borrowing cost. If the asset earns less than the loan costs, leverage lowers the return and magnifies losses.