risk premium

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Risk premium

The reward for holding the risky market portfolio rather than the risk-free asset. The spread between Treasury and non-Treasury bonds of comparable maturity.

Risk Premium

The return over and above the risk free rate of return that an investor expects in exchange for each additional unit of risk. According to Markowitz portfolio theory, rational investors only accept additional risk if they expect a greater return. One refers to this greater return as the risk premium. See also: Risk capital, Eat well, Sleep well.

risk premium

The extra yield over the risk-free rate owing to various types of risk inherent in a particular investment. For example, any issuer other than the U.S. government usually must pay investors a risk premium in the form of a higher interest rate on bonds to account for the fact that the risk of default is less on U.S. government securities than on securities of other issuers. Also called bond premium risk.

Risk premium.

A risk premium is one way to measure the risk you'd take in buying a specific investment. Some analysts define risk premium as the difference between the current risk-free return -- defined as the yield on a 13-week US Treasury bill -- and the potential total return on the investment you're considering.

Other measures of risk premium, which are applied specifically to stocks, are a stock's beta, or the volatility of that stock in relation to the stock market as a whole, and a stock's alpha, which is based on an evaluation of the stock's intrinsic value.

Similarly, the higher interest rates that bond issuers typically offer on bonds below investment grade may be considered a risk premium, since the higher rate, and potentially greater return, is a way to compensate for the greater risk.

risk premium

the additional return on an INVESTMENT which an investor requires to compensate for the possibility of losing all or part of that investment if future events prove adverse. The size of the risk premium will depend to an extent upon the personality of the investor. Some cautious investors are ‘risk averse’ and require a substantial risk premium to induce them to undertake risky investments. Other less cautious investors are ‘gamblers’ and demand little risk premium. Attitudes to risk also depend upon the size of the potential gains or losses involved. Where a project risks making a loss which is so large as to endanger the future solvency of the investor then investors would tend to adopt a cautious view about the downside risk involved, even when such losses are highly unlikely, and would demand a substantial risk premium. See DECISION TREE, UNCERTAINTY AND RISK, CAPITAL ASSET PRICING MODEL.

risk premium

the additional return on an INVESTMENT that an individual and business manager requires to compensate them for the RISK of losses if the investment fails. Investors in government BONDS, where there is very little risk of the borrower defaulting, would require a more modest return on such an investment than the return they would require on an investment in, say, a small newly established company where there is a significant risk that the company will fail and the investors lose some or all of their investment.

Attitudes to risk are partly dependent on the personality of the investor, some investors being very cautious and ‘risk-adverse’, so requiring a large risk premium to induce them to take the risk. The risk premium demanded by investors is also influenced by the size of the potential gains or losses involved. For example, where an investment project risks making a loss that is so large as to endanger the continued existence of the sponsoring company, then managers would tend to adopt a cautious view about the risks involved.

References in periodicals archive ?
Without the implementation of policies to ensure successful normalization, potential adverse shocks or policy missteps could trigger an abrupt rise in market risk premiums and a rapid erosion of policy confidence," affirmed the IMF.
10) Peaks are identified as periods with the 10 percent lowest market risk premiums, and troughs as periods with the 10 percent highest risk premiums.
This is due to higher market risk premiums resulting in rising discount rates employed in these impairment tests.
Across the size-sorted decile portfolios, Democratic presidencies always yield higher market risk premiums than their Republican counterparts.
Further, historical market risk premiums (estimated using the methods of Dimson et al.
26 billion dirhams, reflecting market-wide devaluation of equity and fixed income markets and increased market risk premiums, the bank said.
Recent International Monetary Fund research demonstrates that equity markets like the UAE's are not insulated, but in fact are vulnerable to global risk as expressed in higher market risk premiums.
Market risk premiums estimated by a forward-looking procedure might also prove to be of value.
com/cgi-bin/prnh/20041215/CGW049LOGO) Among the highlights: -- Reinsurance market risk spreads are narrowing -- directionally getting less expensive -- Worldwide credit market risk spreads are widening -- directionally getting more expensive -- Worldwide equity market risk premiums are widening -- directionally getting more expensive -- To finance risk that otherwise would have been retained, insurers will be more likely to utilize the reinsurance market than the equity, senior and subordinated debt markets -- Large buyers of property catastrophe reinsurance now utilize the capital markets to provide 10-25 percent of their catastrophe capacity.
Moreover, Fletcher (2000) argues that beta explains the relationship between expected local market risk premiums and world market risk premiums in more integrated markets.