Financial Risk Premium
- Describe the market risk premium and the risk free rate and analyze how these are determined and applied in financial calculations (e.g. CAPM).
Market Risk Premium and Risk-Free Rate
Market Risk Premium
Definition:
- The market risk premium (MRP) is the additional return that investors require for choosing to invest in the stock market over a risk-free asset. It represents the extra compensation investors demand for taking on the higher risk associated with equity investments.
Determination:
- The MRP is typically estimated by subtracting the risk-free rate from the expected return of the market portfolio. Historical data is often used to estimate the average market return over time.
MRP=Expected Market Return−Risk-Free Rate\text{MRP} = \text{Expected Market Return} – \text{Risk-Free Rate}
Market Risk Premium and Risk-Free Rate
Market Risk Premium
Definition:
- The market risk premium (MRP) is the additional return that investors require for choosing to invest in the stock market over a risk-free asset. It represents the extra compensation investors demand for taking on the higher risk associated with equity investments.
Determination:
- The MRP is typically estimated by subtracting the risk-free rate from the expected return of the market portfolio. Historical data is often used to estimate the average market return over time.
MRP=Expected Market Return−Risk-Free Rate\text{MRP} = \text{Expected Market Return} – \text{Risk-Free Rate}
Market Risk Premium and Risk-Free Rate
Market Risk Premium
Definition:
- The market risk premium (MRP) is the additional return that investors require for choosing to invest in the stock market over a risk-free asset. It represents the extra compensation investors demand for taking on the higher risk associated with equity investments.
Determination:
- The MRP is typically estimated by subtracting the risk-free rate from the expected return of the market portfolio. Historical data is often used to estimate the average market return over time.
MRP=Expected Market Return−Risk-Free Rate\text{MRP} = \text{Expected Market Return} – \text{Risk-Free Rate}
Market Risk Premium and Risk-Free Rate
Market Risk Premium
Definition:
- The market risk premium (MRP) is the additional return that investors require for choosing to invest in the stock market over a risk-free asset. It represents the extra compensation investors demand for taking on the higher risk associated with equity investments.
