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Discussion Questions Right now, is the market risk premium sufficient for you to invest in the stock market? To answer that question: How much do you think the stock market will return over and above...

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Discussion Questions

  • Right now, is the market risk premium sufficient for you to invest in the stock market?

To answer that question:

  • How much do you think the stock market will return over and above the Treasury10-year bond rate?
  • As an investor, is that an important question to answer before you invest in the stock market?
  • Do you think it will return enough to justify the added risk?
  • Do you think this premium will vary for different countries or for the same country over different time spans?

Note, when you are calculating the WACC for your company, you will need to answer similar questions.

  • Your text gives you three methods: historical risk premium, surveys of experts, and forward risk premiums. Which method do you prefer and why?
  • What would you do if the three methods varied significantly?

Four papers are available for your perusal:

Market risk premium in 2012 in U.S.

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2020091

Market risk premium in 2014 in U.S.

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2422008

Market risk for 56 countries in 2011

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1947301

Market risk for 82 countries in 2012

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2084213


Answered Same Day Dec 26, 2021

Solution

David answered on Dec 26 2021
141 Votes
Right now, is the market risk premium sufficient for you to invest in the stock market?
Market risk premium is the difference between market rate of return and risk free rate ( yield on
treasury bond) Market rate of return is not constant as it varies based on the market fluctuations . The
market risk premium as of 2014 surveys was 3.73% that seems to be sufficient for investing in stock
market.
How much do you think the stock market will return over and above the Treasury10-year bond
ate?
As of today the cu
ent bond rate is hovering right around 2.292% yield. Since the election, there has
een a steady increase in the bond yield projection from 1.88% to the cu
ent yield as of November
21st, projected to be 2.33%, an increase of 0.45%. Based on data I found on line and from analyzing the
documents from Graham and Harvey, I think it is safe to say that the rule of 72 is definitely in play and
that a 7% return on the market is within reach
As of today, the projected implied market risk premium 4.41% and the projected risk free rate is 1.84%.
This implies that the projected rate of return as of right now is 6.25% which is pretty close to 7%. The
market risk premium has remained relatively flat over the year, ranging from 5.27% to 4.07%, with a lot
of this having to do with decreasing bond yields....
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