Kroll continue to publish regular updates on the global economic and financial market conditions that influence business valuations in the UK (they began this process in 2014). In the last week, they’ve released updated equity risk premium (ERP) and inflation indicators.
The ERP, along with accompanying risk-free rates, are a key input used to calculate the capital asset pricing model (CAPM) and other models. Kroll regularly reviews fluctuations in global economic and financial market conditions that warrant a periodic reassessment of the ERP and the accompanying risk-free rate.
These projections come at a time when the FTSE 100 is the only major global stock index that’s reported a positive return during the first five months of 2022. The S&P 500 is down about 20% while the FTSE 100 remains essentially flat.
Their current guidance for the UK risk-free rate is 3.0. Kroll describe this rate as “normalized, since market conditions now suggest a number which they deem to be ‘abnormally low.’” Prior to this period, their rate had been 2.5—lower than historical averages but still an increase. A table summarising the historical risk-free rates since 2014 is also available.
Kroll also note the reduction in value caused by inflation increases since June 2020. Long-term inflation expectations (used to adjust long-term growth rates in the terminal years of DCF analyses) are significantly higher when compared to June 2020. For the US, for example, inflation estimates over the long-term rose from 2.0% in June 2020 to 2.6% in May 2022. For Germany, long-term inflation expectations have surged from 1.6% in June 2020 to 2.6% in May 2022.
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