Computation of Risk Premium with Real Rate retur
I have a problem with Practice Questions 13 and 14 of Reading 39 (regarding computation of risk premium) and the errata published by the CFA. I don’t understand why they change the numerator with (1 + 0.080) whereas the formula in the curriculum seemed more consistent with the previous answer. All the info are below (related to question 13)
Note: in the previous questions (11 and 12), the student is asked about the real return of equities and the real return of corporate bonds and the correct answers were 5,8 % for real return of equities and 4,3 % for real restrung of corporate bonds.
An analyst had the following geometric returns
equities —- > 8%
Corporate bonds —-> 6,5%
Treasury Bills —-> 2,5%
Inflation —-> 2,1 %
The risk premium for equities is :
A 3,2% (erratum : A 5,4%)
B 3,4% (erratum: B 5,5%)
C 3,6% (erratum C 3,6%)
Answer before erratum: A is correct (1 + 0.058) / (1+0.0250) - 1 = 3,2 %
Answer after erratum: A is correct (1 + 0.080)/ (1+0,
.0250) - 1 = 5,4%
i don’t understand the answer after erratum: is it not consistent with the curriculum formula :
(1+r) = (1+r rf) * (1+pi) *(1+RP)
(1+r real) = (1+r rf) * (1+RP) or
(1+r real) = (1+r) / (1+pi)
pi = inflation
RP= risk premium
r rf= real risk return
Any insights ?
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