Risk-Free Rate Puzzle - RFRP

A A A

DEFINITION

An anomaly in the difference between the lower historic real returns of government bonds compared to equities. This puzzle is the inverse of the equity premium puzzle, and looks at the disparity from the perspective from the lower returning government bonds.

INVESTOPEDIA EXPLAINS

The risk-free rate puzzle is used to explain why bond returns are lower than equity returns by looking at investor preference. If investors tend to seek out high returns, why do they invest heavily in government bonds rather than in equities? If investors did invest in more equities, returns from equities would fall, causing the returns for government bonds to rise and making the equity premium smaller.


RELATED TERMS
  1. Capital Asset Pricing Model - CAPM

    A model that describes the relationship between risk and expected return and ...
  2. Equity Risk Premium

    The excess return that an individual stock or the overall stock market provides ...
  3. Risk

    The chance that an investment's actual return will be different than expected. ...
  4. Risk Averse

    A description of an investor who, when faced with two investments with a similar ...
  5. Risk-Return Tradeoff

    The principle that potential return rises with an increase in risk. Low levels ...
  6. Risk Premium

    The return in excess of the risk-free rate of return that an investment is expected ...
  7. Equity Premium Puzzle - EPP

    An phenomenon that describes the anomalously higher historical real returns ...
  8. Consumption Capital Asset Pricing ...

    A financial model that extends the concepts of the capital asset pricing model ...
  9. Anomaly

    A term describing the incidence when the actual result under a given set of ...
  10. Error Term

    A variable in a statistical and/or mathematical model, which is created when ...
Related Articles
  1. The Capital Asset Pricing Model: An ...
    Fundamental Analysis

    The Capital Asset Pricing Model: An ...

  2. Catch On To The CCAPM
    Fundamental Analysis

    Catch On To The CCAPM

  3. Modern Portfolio Theory: Why It's Still ...
    Active Trading

    Modern Portfolio Theory: Why It's Still ...

  4. Equity Premiums: Looking Back And Looking ...
    Bonds & Fixed Income

    Equity Premiums: Looking Back And Looking ...

  5. Rules For Having A Health Savings Account ...
    Insurance

    Rules For Having A Health Savings Account ...

  6. Matching Investing Risk Tolerance To ...
    Active Trading Fundamentals

    Matching Investing Risk Tolerance To ...

  7. Invest In Large-Cap Value Stocks With ...
    Chart Advisor

    Invest In Large-Cap Value Stocks With ...

  8. Mixed Economic System
    Economics

    Mixed Economic System

  9. Free On Board
    Professionals

    Free On Board

  10. The Path To Becoming A CEO
    Professionals

    The Path To Becoming A CEO

comments powered by Disqus
Hot Definitions
  1. Maintenance Margin

    The minimum amount of equity that must be maintained in a margin account. In the context of the NYSE and FINRA, after an investor has bought securities on margin, the minimum required level of margin is 25% of the total market value of the securities in the margin account.
  2. Leased Bank Guarantee

    A bank guarantee that is leased to a third party for a specific fee. The issuing bank will conduct due diligence on the creditworthiness of the customer looking to secure a bank guarantee, then lease a guarantee to that customer for a set amount of money and over a set period of time, typically less than two years.
  3. Degree Of Financial Leverage - DFL

    A ratio that measures the sensitivity of a company’s earnings per share (EPS) to fluctuations in its operating income, as a result of changes in its capital structure. Degree of Financial Leverage (DFL) measures the percentage change in EPS for a unit change in earnings before interest and taxes (EBIT).
  4. Jeff Bezos

    Self-made billionaire Jeff Bezos is famous for founding online retail giant Amazon.com.
  5. Re-fracking

    Re-fracking is the practice of returning to older wells that had been fracked in the recent past to capitalize on newer, more effective extraction technology. Re-fracking can be effective on especially tight oil deposits – where the shale products low yields – to extend their productivity.
  6. TIMP (acronym)

    'TIMP' is an acronym that stands for 'Turkey, Indonesia, Mexico and Philippines.' Similar to BRIC (Brazil, Russia, India and China), the acronym was coined by and investor/economist to group fast-growing emerging market economies in similar states of economic development.
Trading Center