CXO Advisory

Objective research and reviews to aid investing decisions

Equity Premium

Governments are largely insulated from market forces. Companies are not. Investments in stocks therefore carry substantial risk in comparison with holdings of government bonds, notes or bills. The marketplace presumably rewards risk with extra return. How much of a return premium should investors in equities expect? These blog entries examine the equity risk premium as a return benchmark for equity investors.

The 2010 Equity Risk Premium from Practitioners

…U.S. and Canadian financial analysts on average currently estimate that investors require an annual excess return from equities of 5.1%.

The 2010 Equity Risk Premium from Academia

…U.S. finance and economics professors on average currently estimate that investors require an annual excess return from equities of 6%.

Trading Frictions Over the Long Run

…trading frictions for large-capitalization U.S. stocks are much higher for most of the 20th century than they have been over the past 20 years. These frictions may be material in deriving exploitable trends or anomalies from long-run series.

Fear of Disasters?

…evidence suggests that fear of disasters accounts for large fractions, perhaps most on average, of both the equity risk premium and the volatility risk premium.

The “Best” Equity Risk Premium

…formal asset valuation models (extrapolations of historical return data) provide the most (least) predictive estimates of the future equity risk premium.

Equity Risk Premium Book Learning

…while mid-single digits may be a reasonable rough estimate for the equity risk premium, there is not a generally accepted value for it or method of estimating it.

CFOs Project the Equity Risk Premium

…a current survey of U.S. CFOs indicates a prospective U.S. equity risk premium that is on a three-year uptrend (to 4.74%, the highest in the series).

The 2008 Equity Risk Premium from Academia

…finance and economics professors on average currently estimate that investors require an annual excess return from equities in the range 5% to 7%.

The Prospective “Academic” Equity Risk Premium

…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.

The Belief Component of Risk Premiums

…perceptions move markets. Market beliefs, which may express mistaken forecasts, are at least as important to asset pricing as macroeconomic fundamentals.

Calibrating Ancient History

…a dynamic and flexible model of long-term equity returns that accommodates structural breaks improves predictive power, at the cost of considerable complexity.

The Professor’s Forecast for the Indefinite Future…

The more we study it, the smaller it gets? Or, the act of studying risk diminishes the fear of it?

Honing in on the Prospective U.S. Equity Risk Premium

…investors expect annual equity returns of 3-4% over the risk-free rate in coming years.

An Equity Risk Premium Opus

…the author provides a comprehensive overview of equity risk premium concepts and values, stressing the mid-20th century break in key financial relationships.

Worldwide Equity Returns in the 21st Century

…the author forecasts annual worldwide equity returns in the high single digits over the coming decade.

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