How ‘not to get killed’ citing Ibbotson supply side ERP

BVWireIssue #54-3
March 21, 2007

Several subscribers have recently requested more information on Ibbotson’s supply side equity risk premium (ERP)—currently 6.28%—which appears in the “Cost of Capital” portion of the BVU; a footnote explains that the figure represents “the historical equity risk premium adjusted downward to remove historical price to earnings growth.”

“Ideally, we would like people to read the entire chapter on Equity Risk Premium in the Stocks, Bonds, Bills, and Inflation Valuation Edition Yearbook,” says Michael Barad at Morningstar.  “A free alternative would be to read the Ibbotson and Chen white paper on the Stock Market Returns in the Long Run published in 2002,” but the data and examples may be outdated.

“I wouldn't recommend that anyone use an equity risk premium number they don't understand, and that is why we have an entire chapter on it in our SBBI book,” Barad says. “Without proper background, they will get killed by opposition.”

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