In a year in which common stocks offered an average return of 18%, Tre

QUESTION

In a year in which common stocks offered an average return of 18%, Treasury bonds offered 10%, and Treasury bills offered 7%, the risk premium for common stocks was:(a) 1%(b) 3%(c) 8%(d) 11%
Here we must compare our Return on equity vs our risk-free return. That is, the risk premium is the amount of the equity return that is not attributable to the risk free rate. our equity return is 18% and our risk free rate is the return on SHORT dated Treasuries which are known as Treasury Bills. Treasury bonds are LONG dated securities and are not

nsidered proxies for the risk free rate. So our equity return is 18% and we subtract our risk free rate of 7% to find that 11% is the risk premium for common stocks (aka the portion NOT attributable to the risk free rate.) Answer is d).

ANSWER:

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