Investopedia

Continue to Site »

Equity Risk Premium

Filed Under » ,
Dictionary Says

Definition of 'Equity Risk Premium'

The excess return that an individual stock or the overall stock market provides over a risk-free rate. This excess return compensates investors for taking on the relatively higher risk of the equity market. The size of the premium will vary as the risk in a particular stock, or in the stock market as a whole, changes; high-risk investments are compensated with a higher premium.

Also referred to as "equity premium".
Investopedia Says

Investopedia explains 'Equity Risk Premium'

The reason behind this premium stems from the risk-return tradeoff, in which a higher rate of return is required to entice investors to take on riskier investments. The risk-free rate in the market is often quoted as the rate on longer-term government bonds, which are considered risk free because of the low chance that the government will default on its loans. On the other hand, an investment in stocks is far less guaranteed, as companies regularly suffer downturns or go out of business.

If the return on a stock is 15% and the risk-free rate over the same period is 7%, the equity-risk premium would be 8% for this stock over that period of time.

Articles Of Interest

  1.

    Why Stocks Outperform Bonds

    Why have stocks historically produced higher returns than bonds? It's all a matter of risk.

  2. The Capital Asset Pricing Model: An Overview

    CAPM helps you determine what return you deserve for putting your money at risk.

  3. Calculating The Equity Risk Premium

    See the model in action with real data and evaluate whether its assumptions are valid.

  4. The Equity-Risk 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.

  5. Equity Valuation In Good Times And Bad

    Learn how to filter out the noise of the market place in order to find a solid way of determing a company's value.

  6. Equity Premiums: Looking Back And Looking Ahead

    If stocks become less profitable in the future, you may have to change your investment strategy.

  7. Behavioral Bias - Cognitive Vs. Emotional Bias In Investing

    We all have biases. The key to better investing is to identify those biases and create rules to minimize their effect.

  8. Why Your Pension Plan Has Sovereign Debt In It

    One type of security pensions tend to invest in is sovereign debt, or debt issued by a government.

  9. Trading Is Timing

    Learn how to make gains even if you don't get in at the right time.

  10. How To Profit From Risk

    CDs may look safe and attractive but considering most pay a rate that is less than the rate of inflation seniors today risk actually losing money with CDs. We need to be our own money managers ...
comments powered by Disqus
Marketplace
Hot Definitions

  1. Cost-Push Inflation

    A phenomenon in which the general price levels rise (inflation) due to increases in the cost of wages and raw materials.

  2. Happiness Economics

    The formal academic study of the relationship between individual satisfaction and economic issues, such as employment and wealth.

  3. Affluenza

    A social condition arising from the desire to be more wealthy, successful or to "keep up with the Joneses." Affluenza is symptomatic of a culture that holds up financial success as one of the highest achievements.

  4. Icarus Factor

    The term Icarus factor describes a situation where managers or executives initiate an overly ambitious project which then fails. Fueled by excitement for the project, the executives are unable to reign in their misguided enthusiasm before it is too late to avoid the failure.

  5. Angelina Jolie Stock Index

    An index made up of a selection of stocks from companies associated with actress Angela Jolie.

  6. Consequential Loss

    The amount of loss incurred as a result of being unable to use business property or equipment.
Trading Center