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1. b
2. d
3. b
4. b
True or False Questions
5. False. fhhotson's risk premium series are based on 1-, 5-, and 20-year maturities, so using a 10-year maturity for the risk-free rate does not have a matching risk premium.
6. False
7. True
8. True
Fill-in-the-Blank Questions
10 11 12 13 14 |
Equity risk premium Historic Lower; equal Risk-free; risk Risk premium Does Exercises
15. The formula for the arithmetic mean equily risk premium is:
Excess Returns on the |
x = arithmetic average
Ri = (he excess return for period in ~ number of observation periods.
V'e can tabulate the data as follows:
Returns on U.S. rear Returns on the Market Treasury Obligations
0.03 |
0.40 |
|
0.06 |
0.09 |
|
0.02 |
0.18 |
|
0.05 |
-0.35 |
|
0.06 |
-0.04 |
|
urn = 0.28/5 = |
= 5.6% or = |
= 6% |
1 0.43
.15 .20 .30 .02
Short-term arithmetic mean equity risk premium = 0. 16. The formula for the aeometric mean is:
i
G =
-i
ye:
G = Geometric average
Ri = Return for the itli period (the returns measured for each period are actually
excess returns, that is, tlie difference between the equity market return and tlie
Treasury-obligation income return for the n ~ Number of observation periods
We can tabulate the results as follows:
on |
Year Returns on the Market
1 0.43
2 0.15
3 0.20
4 -0.30
5 0.02
Short-term geometric mean equity 1.7. Risk-free rate
+ Equity risk premium
+ Size premium
+ Company risk premium
Returns on T |
J.S. |
1 + Excess Retu |
Treasury Obli^ |
ations |
tlie Market |
0.03 |
1.40 |
|
0.06 |
1.09 |
|
0.02 |
1.18 |
|
0.05 |
0.65 |
|
0.06 |
0.96 |
premium |
Vl-1236 -1 = 1.02 -1 = 0.02 or 2%
6% 7% 8% 2%
ABC cost of equity capital
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