Here are Costaguanan inflation rates and stock market and Treasury bit! returns between 1929 and 1933
|Year||Inflation||Stock market return||T-bill return|
What was the real return on the stock market m each year1? (Negative values should be indicated by a minus sign. Do not round intermediate calculations Round your answers to 1 decimal place.)
Wh8t was the average real return-? (Negative value should be indicated by a minus sign. Do not round intermediate calculations. Round your answer to 2 decimal places.)
What was the risk premium in each year? (Negative values should be indicated by a minus sign Round your answers to 1 decimal place.)
What was the average risk premium ? (Negative values should be indicated by a minus sign Round your answers to 1 decimal place.)
Risky assets, such as stocks, on average earn a higher return than risk-free assets, such as treasury bonds. The difference between the returns is called the risk premium. Specifically, the difference between stock return and risk-free rate is called the equity premium.
Answer and Explanation:
Real stock market return is calculated as follows:
- real stock market return = nominal stock market return - rate of inflation
The risk premium is calculated as follows:
- risk premium = nominal stock market return - nominal T-bill return
Applying these two formulas, the annual real stock market return and the annual risk premium are given in the table below:
|Year||Inflation||Stock market return||T-bill return||Real Return||Risk Premium|
The average real stock market return = (-11.7% - 26.9% - 32.1% + 1.1% + 56.7%) / 5 = -2.58%.
The average risk premium = (-17.9% - 34.4% - 41.9% - 10.3% + 56.6%) / 5 = -9.58%.
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from Financial Accounting: Help and ReviewChapter 5 / Lesson 26