You've observed the following returns on Yamauchi Corporation's stock over the past five years: -26.7 percent,...

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Question

You've observed the following returns on Yamauchi Corporation's stock over the past five years: -26.7 percent,...

You've observed the following returns on Yamauchi Corporation's stock over the past five years: -26.7 percent, 14.8 percent, 32.6 percent, 2.9 percent, and 21.9 percent. The average inflation rate over this period was 3.29 percent and the average T-bill rate over the period was 4.3 percent.

a. What was the average real risk-free rate over this time period?

b. What was the average real risk premium?

business accounting

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Answer 1

Answer #1

	The language of the question is not clear regarding that whether rate of return of the stock is given in real terms or in nominal terms.
	Assuming that rate of interest in stock is given in nominal terms:
	Alternative -1
a.	Calculation of nominal interest rate=	(-26.7+14.8+32.6+2.9+21.9)/5
		9.10	%

	Calculation of real rate of return	(1+nominal rate)/(1+inflation rate)-1
		(1.091)/(1.0329)-1
		1.056249-1
		5.62%

b	Real risk premium = Real rate of return - Risk free rate(T-bill)
	Real risk premium = 5.62% - 4.3 %
	Risk premium = 1.32%


	Assuming that rate of interest in stock is given in real terms
	Alternative -2
a	Calculation of real interest rate=	(-26.7+14.8+32.6+2.9+21.9)/5
		9.10	%

b	Real risk premium = Real rate of return - Risk free rate(T-bill)
	Real risk premium = 9.1% - 4.3 %
	Risk premium = 4.8 %

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Answer 2

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