Thursday, October 20, 2005

Equity Risk Premium

It is not new, but we just covered it in class and I think many of you might be interested. It is a brief overview of the Equity Risk premium through time by Clark and Silva.

Short version: Expect the equity risk premium to be lower moving forward.

From the paper:
"Expectations for the long-run equity risk premium play an important role in asset allocation decisions because the policy asset mix between equity and fixed income depends on the tradeoff between expected return and risk. The higher the expected equity risk premium the more equity will be held in the portfolio. To give some perspective about what might be reasonable to expect in the future, we first show historical values for the U.S. equity risk premium. Second, we break the equity risk premium into its component parts and suggest some reasonable values for the components going forward. Finally, we present expectations from several other written sources."
I especially suggest you look at page two; the tables are excellent for class!

1 comment:

Barry Barnitz said...

Check out Goetzmann and Ibbotsen History and the Equity Risk Premium, April 2005 for a look at the evolution of the equity risk premium construct.