From the course: Finance Foundations
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Equity risk premium
From the course: Finance Foundations
Equity risk premium
Another important element of the capital asset pricing model is something called the equity risk premium. Now, in this context, equity means an investment in the ownership shares of a company. Equity stock investments are what we're talking about. And the simple insight is this, an investment in the shares of a company is more risky, say, than an investment in a bank account. So there should be a higher rate of return. If you invest in a bank account, there's almost no risk at all. So the return that you're going to earn is low. But if you're investing in stocks, then there's much more risk, so you will expect a higher return. In the United States, for example, over the last 50, 60, 70 years, an investment in stocks has averaged a return of about 10 to 11 percent per year. The equity risk premium is the extra amount you expect to earn on your investment, because you are investing in risky assets. Now, recall that the number we are remembering for the risk-free rate is? That's right…
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Contents
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Introducing risk and return1m 45s
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What is risk?3m 4s
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Why we don’t like risk1m 23s
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Reducing risk through diversification2m 1s
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Beta: The concept3m 26s
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Beta: Examples2m 31s
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Risk-free rate2m 26s
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Equity risk premium2m 32s
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Capital asset pricing model (CAPM)3m 18s
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