Blog - Investing Notes
January 21, 2008 - The Prospective "Academic" Equity Risk Premium
What is the latest reading on the future equity risk premium from the academic
community? In his January 2008 paper entitled "The
Consensus Estimate For The Equity Premium by Academic Financial Economists in
December 2007", Ivo Welch answers this question. Based on 369 "core"
responses to a survey of finance professors conducted during late December 2007,
he finds that:
- As of the end of 2007, survey respondents estimate the one-year equity risk
premium and the 30-year geometric
mean equity premium to be about 5%, translating to a 9% expected rate
of return for stocks.
- They estimate the 30-year arithmetic
mean equity premium to be about 0.7% higher than the geometric mean, implying
12-13% annual volatility.
- The geometric mean equity premium forecast for 2007 is about 0.7% more bearish
than the similarly estimated 2001 forecast.
- Respondents estimate the average annual probability of a decline in the
stock market at one third. They estimate the probability of a 20% one-year
decline at a fat-tailed 10%.
The following chart summarizes key findings of the December 2007 survey of
369 U.S. finance professors.
In summary, U.S. finance professors on average, as of the end of 2007, expect
stocks to offer a 5% annual (geometric) risk premium over the next 30 years,
a little below their expectation in 2001.
For related research, see Blog
Synthesis: The Equity Risk Premium.
