Question

You've observed the following "nominal" returns on Crash-n-Burn Computer's stock over the past five years: 5 percent. -12 percent, 27 percent, 22 percent, and 17 percent. The average inflation rate over this period was 3 percent and the average T-bill rate was 3.65 percent. Requirement 1: What was the average "real" return on Crash-n-Burn's stock? Note: Use the Fisher Effect Formula from the Bond chapter to convert nominal to real rates of return. (Do not round intermediate calculations.) ces ( (Click to select) ) Requirement 2: What was the average nominal risk premium on Crash-n-Burn's stock? (Do not round intermediate calculations.) (Click to select)

Answer 1

a.
Calculation of average nominal return on Crash-n-Burn's stock
Average nominal return	(5%-12%+27%+22%+17%)/5
Average nominal return	59%/5
Average nominal return	11.80%
Using the fisher equation we can calculate the average real return on stock
(1+rn)	(1+ri)*(1+i)
rn represents nominal return
ri represents real return
I represents inflation rate
(1+ri)	((1+rn)/(1+i))
(1+ri)	(1.1180/1.03)
(1+ri)	1.085437
ri	1.085437-1
ri	8.54%
Thus, average return return is 8.54%.
b.
Average nominal risk premium	Average nominal return - Risk free rate
Average nominal risk premium	11.80%-3.65%
Average nominal risk premium	8.15%