If the expected dividend return from equities is 3% per annum, the expected capital growth return from equities is 2% per annum, and the current long term Government bond yield is 2% per annum, the current equity risk premium is:

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Prepare for the Qualified Financial Adviser Exam 2 with flashcards and multiple choice questions, complete with hints and explanations. Get exam-ready and increase your confidence with our comprehensive study materials!

Multiple Choice

If the expected dividend return from equities is 3% per annum, the expected capital growth return from equities is 2% per annum, and the current long term Government bond yield is 2% per annum, the current equity risk premium is:

Explanation:
Equity risk premium is the extra return investors require for taking on stock risk over a risk-free investment. Here, the expected total return from equities equals the dividend yield plus capital growth: 3% + 2% = 5% per year. The risk-free rate is the long-term government bond yield at 2% per year. Subtracting the risk-free rate from the expected equity return gives the premium: 5% − 2% = 3% per year. So the current equity risk premium is 3% per annum.

Equity risk premium is the extra return investors require for taking on stock risk over a risk-free investment. Here, the expected total return from equities equals the dividend yield plus capital growth: 3% + 2% = 5% per year. The risk-free rate is the long-term government bond yield at 2% per year. Subtracting the risk-free rate from the expected equity return gives the premium: 5% − 2% = 3% per year. So the current equity risk premium is 3% per annum.

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