April 2014
Intermediate to advanced
1344 pages
44h 24m
English
book
Cost of Capital: Applications and Examples, + Website, 5th Edition
by Shannon P. Pratt, Roger J. Grabowski, Richard Brealey
Content preview from Cost of Capital: Applications and Examples, + Website, 5th Edition
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APPENDIX 8A
Deriving ERP Estimates1
Realized Risk Premium (ex post) Approach
Measuring Realized Risk Premiums
Realized Historical Stock and Bond Returns
Summarizing Realized Risk Premium Data
What Periodicity of Past Measurement?
Comparing Investor Expectations to Realized Risk Premiums
Using the Geometric Average for Compounding and the Arithmetic Average for Discounting
Is Bias Introduced by Using the Arithmetic Average as an ERP Estimate?
Top-down Implied ERP Estimates
REALIZED RISK PREMIUM (EX POST) APPROACH
Here we discuss in detail the following issues in applying the realized risk premium approach:
- What risk-free rate should be used to measure the realized premiums?
- What period should be used as the sample period?
- Should returns be measured over one-year holding periods or over longer holding periods?
- Is the arithmetic average or geometric average the more accurate method of summarizing realized return data over the sample period?
Measuring Realized Risk Premiums
The measure of the risk-free rate has generally not been controversial once the proper duration (long-term versus short-term) of the investment has been estimated, since the expected yield to maturity on appropriate U.S. government securities ...
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