Equity risk premium
Definition · Level 9 · Valuation
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The extra annual return investors demand for owning stocks rather than risk-free government bonds. It can’t be observed directly; US practitioners have mostly assumed about 4–6%.
Example
“We use a 5.5% ERP on a 4% ten-year.”
Rules and market figures change: check the current ones before relying on this (written as of 2026-09).
Where Tradecraft teaches it
Level 9 · Valuation, in the lesson “Intrinsic value: discounting and DCF”: Time value of money, DCF steps, terminal value, WACC, CAPM and sensitivity.
Related terms
- CAPMCapital asset pricing model: cost of equity = risk-free rate + beta × equity risk premium, where beta measures the stock’s sensitivity to market…
- Cost of debtThe rate a company would pay on new borrowing — roughly the yield on its bonds.
- Cost of equityThe return shareholders require to own the stock given its risk — an opportunity cost, not a cash payment.
- DCFIntrinsic valuation: forecast free cash flows, add a terminal value, discount everything at the matching cost of capital (WACC for unlevered flows)…
- Discount rateThe annual rate used to convert future cash flows into present value — the return investors require for the risk taken (WACC for a firm’s FCF, cost…
- Gordon growth / DDMValue of a flow growing forever at rate g: next year’s flow ÷ (discount rate − g), valid only if the rate exceeds g.