Introduction to Corporate Finance

PART 2: VAlUATION, RISK AND RETURN

Real equity returns and risk premia around the world 1900—2010

Country Average real

return on

equities (%) —

geometric mean

Average real

return on

equities (%) —

arithmetic mean

Standard

deviation of

annual real equity

returns (%)

Risk premium

versus bills (%)

Risk premium

versus bonds (%)

Australia 7.4 9.1 18.2 6.7 5.9

Belgium 2.5 5.1 23.6 2.9 2.6

Canada 5.9 7.3 17.2 4.2 3.7

Denmark 5.1 6.9 20.9 2.8 2.0

Finland 5.4 9.3 30.3 5.9 5.6

France 3.1 5.7 23.6 6.0 3.2

Germany* 3.1 8.1 32.2 5.9 5.4

Ireland 3.8 6.4 23.2 3.0 2.9

Italy 2.0 6.1 29.0 5.8 3.7

Japan 3.8 8.5 29.8 5.9 5.0

Netherlands 5.0 7.1 21.8 4.2 3.5

New Zealand 5.8 7.6 19.7 4.1 3.8

Norway 4.2 7.2 27.4 3.0 2.5

South Africa 7.3 9.5 22.6 6.2 5.5

Spain 3.6 5.8 22.3 3.2 2.3

Sweden 6.3 8.7 22.9 4.3 3.8

Switzerland 4.2 6.1 19.8 3.4 2.1

United Kingdom 5.3 7.2 20.0 4.3 3.9

United States 6.3 8.3 20.3 5.3 4.4

Europe 4.8 6.9 21.5 3.8 3.9

World excluding US 5.0 7.0 20.4 4.0 3.8

World 5.5 7.0 17.7 4.5 3.8

* Risk premia data for Germany covers 109 years, since it excludes the hyperinflationary period from 1922–23.

Here again we see the power of diversification.

The average real return and the equity risk premium

on the world portfolio fell in the middle of the pack

relative to the individual countries, but it managed

to achieve those average returns with very low

volatility.

With a standard deviation of 18.2%, the

Australian equity market was the second least

volatile, which is impressive, given that it was the

best-performing with respect to equity returns. This

suggests that over the 110-year period, Australia

achieved one of the highest risk-adjusted returns.

Source: Adapted from Dimson, Marsh & Staunton Equity Risk Premia Around the World, London Business School, July 2011.