Question

You’ve observed the following returns on Yasmin Corporation’s stock over the past five years: 14 percent, –7 percent, 17 percent, 15 percent, and 10 percent. Suppose the average inflation rate over this period was 1.4 percent and the average T-bill rate over the period was 5.1 percent.

What was the average real risk-free rate over this time period? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

Average real risk-free rate             %

What was the average real risk premium? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

Average real risk premium             % (THIS IS NOT 6.15%)

Answer 1

Answer a.

Average Real Risk-free Rate = (Average Nominal Risk-free Rate - Inflation Rate) / (1 + Inflation Rate)
Average Real Risk-free Rate = (0.0510 - 0.0140) / (1 + 0.0140)
Average Real Risk-free Rate = 0.0365 or 3.65%

Answer b.

Average Nominal Return = [0.14 + (-0.07) + 0.17 + 0.15 + 0.10] / 5
Average Nominal Return = 0.49 / 5
Average Nominal Return = 0.098 or 9.80%

Average Real Return = (Average Nominal Return - Inflation Rate) / (1 + Inflation Rate)
Average Real Return = (0.0980 - 0.0140) / (1 + 0.0140)
Average Real Return = 0.0828 or 8.28%

Average Real Risk Premium = Average Real Return - Average Real Risk-free Rate
Average Real Risk Premium = 8.28% - 3.65%
Average Real Risk Premium = 4.63%