Equity Risk Premium Calculator
Calculate the equity risk premium — the extra return stocks are expected to earn over risk-free government bonds — from an expected market return or from dividend yield plus growth, and the CAPM required return for a stock.
How it works
ERP = expected market return − risk-free rate · implied (Gordon growth): expected market return = dividend (cash) yield + long-run growth · CAPM required return = risk-free rate + β × ERP
The equity risk premium (ERP) is the extra annual return investors demand for holding a diversified stock portfolio instead of risk-free government bonds. It can be estimated from history (long-run stock returns minus bond or bill yields), or implied from today’s prices with the Gordon growth model — dividend or total cash yield plus expected growth. It feeds the CAPM and WACC used to value companies; Aswath Damodaran’s widely cited implied ERP for the US market has mostly ranged between about 4% and 6% since 2008.
Worked example
With an expected market return of 9% and a 4.2% government bond yield, the equity risk premium is 9% − 4.2% = 4.80%, close to the long-run average. For a stock with a beta of 1.2, the CAPM required return is 4.2% + 1.2 × 4.80% = 9.96%, of which 5.76% is the stock’s risk premium. With the implied method instead, a 1.5% dividend yield plus 5.5% growth gives an expected return of 7% and an ERP of 2.80%.
Sources: Aswath Damodaran — Implied equity risk premiums (NYU Stern) · Wikipedia — Equity premium puzzle
Frequently asked questions
What is a normal equity risk premium?
Estimates for the US market usually fall between 4% and 6% a year; long-run historical premiums over government bonds are about 4% to 5%. Emerging markets carry an extra country risk premium.
Which risk-free rate should I use?
Use the yield on a long-term government bond in the same currency as the cash flows — typically the 10-year Treasury for US dollar valuations.
What is the difference between the historical and implied ERP?
The historical ERP averages what stocks actually earned over bonds in the past; the implied ERP is forward-looking and backed out of current prices, so it falls when stocks get expensive and rises after crashes.
How is the ERP used in CAPM?
CAPM sets a stock’s required return to the risk-free rate plus beta times the ERP. With a 4.2% risk-free rate, a 4.8% ERP and a beta of 1.2, the required return is 9.96%.
Related calculators
Educational estimate, not investment advice. Returns, defaults, rates and exchange rates are uncertain and past results do not guarantee future ones — consider independent professional advice before investing.