Question

Assume a 20-year period produced small-company returns of 16.7 percent with a risk premium of 9.8 percent, inflation of 5.4 percent, and long-term government bond returns of 10.1 percent. what was the risk-free rate of return during this period?

A. 11.3%
B. 4.4%
C. 6.9%
D. 6.6%
E. 4.7%

Answer 1

The risk-free rate of return is obtained by subtracting the inflation rate from the long-term government bond returns, which in this case is 4.7% (option E) for the given 20-year period.

Step-by-step explanation:

The student asks what the risk-free rate of return was during a 20-year period given the following information: small-company returns of 16.7 percent, a risk premium of 9.8 percent, inflation of 5.4 percent, and long-term government bond returns of 10.1 percent. To answer this, we need to understand that the risk-free rate is typically represented by the long-term government bond returns minus the inflation rate.

Performing the calculations:

1. Subtract the inflation rate from the long-term government bond returns: 10.1% - 5.4% = 4.7%

Therefore, the risk-free rate of return during this 20-year period was 4.7%, which matches answer choice E.