Market Risk Premium – Definition, Formula and Calculation


The ‘Market Risk Premium’ is considered as an excess return over the stocks purchased by the individuals or the whole market that are associated with risk-free rate. Considering this as compensation, such aspect is being practiced in stock-exchange a market which helps business tycoons and investors in making the right decision to avoid high risk coming out of the equity market.

Each stock depicts different risk involved for the investor to evaluate the size of the premium, which varies from one another. Therefore, higher risk involved in the investment calls out for a higher amount of premium for the investor. It should be in our best interest that ‘Market Risk Premium’ is also referred to as ‘Equity Premium’.

How To Calculate?

Let’s catch some of the most effective insights about calculating the market risk premium with certain boundaries and regulations. The procedure starts with evaluating the rough amount which we would get from our return on stocks.

It should be in our best interest that finance experts assume that calculating the future return on stocks is possibly the most difficult job which takes time and real finesse to curate some accurate values. The second step pushes us to analyze the risk-free rate because many investors expect that coupon payment and their principles are settled on semi-annual terms.

How It Helps?

It helps in engaging the most high-profile investors in the stock market, since ‘market risk premium’ is all about risk-return tradeoff which technically helps in getting associated with investments with higher risk rate. Compared to government bonds, the investments made in the stocks exhibit an opposite trend as there’s no such assurance of the profit or if the company shuts down overnight.