Equity Premium Puzzle
The equity premium puzzle asks why stocks historically outperformed safer government debt by more than standard consumption-based models can explain.
Expected equity returns, market sensitivity, residual-income valuation, and realized shareholder performance measure different aspects of equity investing.
Expected compensation for risk is not the same as a return already earned. The Equity Risk Premium compares equity returns with a defined safer benchmark. Levered Beta estimates equity’s sensitivity to a market benchmark, including the modeled effect of financing. Both can inform cost-of-equity estimates, but neither promises a future payoff.
Residual Income uses that required return as a charge against beginning book equity. Its valuation framework asks whether forecast earnings exceed the equity charge and how long any excess might persist. Accounting profit, residual income, dividends, and market gains are distinct quantities.
Total Shareholder Return measures a shareholder’s price and distribution return over a stated period, with reinvestment and corporate-action conventions made explicit. Compare realized performance separately from required-return assumptions, and distinguish arithmetic averages from compounded results. These explanations are educational, not personalized investment advice.
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The equity premium puzzle asks why stocks historically outperformed safer government debt by more than standard consumption-based models can explain.
The equity risk premium compares equity returns with a safer benchmark, with distinct expected, historical, arithmetic, and geometric measures.
Levered beta is equity's estimated market sensitivity after reflecting the company's operating risk and financial leverage.
Residual income deducts an equity charge from earnings and links book value, profitability, and shareholder distributions in valuation.
Total shareholder return combines share-price changes and distributions, with reinvestment, annualization, and corporate-action conventions stated.