DEFINITION of 'Equity Premium Puzzle  EPP'
An phenomenon that describes the anomalously higher historical real returns of stocks over government bonds. The equity premium, which is defined as equity returns less bond returns, has been about 6% on average for the past century. It is supposed to reflect the relative risk of stocks compared to "riskfree" government bonds, but the puzzle arises because this unexpectedly large percentage implies a suspiciously high level of risk aversion among investors.
INVESTOPEDIA EXPLAINS 'Equity Premium Puzzle  EPP'
The equity premium puzzle is a mystery to financial academics. According to some academics, the difference is too large to reflect a "proper" level of compensation that would occur as a result of investor risk aversion; therefore, the premium should actually be much lower than the historic average of 6%.
More recent extensions to the puzzle attempt to offer a different rationale for explaining the EPP, such as investor prospects and macroeconomic influences. No matter the explanation, the fact remains that investors are being rewarded very well for holding equity compared to government bonds.

Equivalent Martingale Measures
In asset pricing, a probability distribution of expected payouts ... 
RiskFree Rate Of Return
The theoretical rate of return of an investment with zero risk. ... 
Expected Return
The amount one would anticipate receiving on an investment that ... 
Capital Asset Pricing Model  CAPM
A model that describes the relationship between risk and expected ... 
Equity Risk Premium
The excess return that an individual stock or the overall stock ... 
Real Rate Of Return
The annual percentage return realized on an investment, which ...

Mutual Funds & ETFs
The Bond Market: A Look Back
Find out how fixedincome investments evolved in the past century and what it means today. 
Fundamental Analysis
The Capital Asset Pricing Model: An Overview
CAPM helps you determine what return you deserve for putting your money at risk. 
Fundamental Analysis
Catch On To The CCAPM
The consumption capital asset pricing model smoothes over some of CAPM's weaknesses to make sense of risk aversion. 
Fundamental Analysis
The EquityRisk Premium: More Risk For Higher Returns
Learn how the expected extra return on stocks is measured and why academic studies usually estimate a low premium. 
Bonds & Fixed Income
Equity Premiums: Looking Back And Looking Ahead
If stocks become less profitable in the future, you may have to change your investment strategy. 
Active Trading Fundamentals
Behavioral Finance
Learn the science behind irrational decision making and how you can avoid it. 
Economics
Understanding Perpetuity
Perpetuity means without end. In finance, a perpetuity is a flow of money that will be received on a regular basis without a specified ending date. 
Fundamental Analysis
What is a Null Hypothesis?
In statistics, a null hypothesis is assumed true until proven otherwise. 
Investing
How to Use Stratified Random Sampling
Stratified random sampling is a technique best used with a sample population easily broken into distinct subgroups. Samples are then taken from each subgroup based on the ratio of the subgroup’s ... 
Economics
How A Limited Government Affects A Country's Finances
Countries with limited governments have fewer laws about what individuals and businesses can and can’t do. What's the net result?