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How is equity risk premia calculated?

Answer

There are three steps to calculating equity risk premia. 

Step 1: Get the risk premia 𝛾𝑗,𝑡 from market prices:

Step 2: Estimate the price ðœ†ð‘˜,,𝑡 of each risk factor given the factor exposures 𝛽𝑗,𝑘,𝑡 of each transaction. 

Step 3: Apply factor prices (lambdas) to new assets to compute their risk premia given their factor exposures. 

 

Further Reading

A comprehensive explanation of our Equity Risk Premia approach can be found here.

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