Financial Risk Manager Part 2

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Explanation:

The market risk premium is a function of the average investor’s risk aversion coefficient and the variance of market returns:

E(R_m) - R_f = \bar{y} \sigma_m^2 \\ \Rightarrow \text{Market risk premium} = \bar{y} \sigma_m^2

Where $\bar{y}$ represents the average investor’s risk aversion based on the CAPM theory.

Calculation:

$`$ 0.07` = \bar{y} (0.18)^2 \ \frac{0.07}{0.0324} = \bar{y} \ \bar{y} = 2.16

The average investor’s risk aversion coefficient is, therefore, 2.16.

Explanation:

The market risk premium is a function of the average investor’s risk aversion coefficient and the variance of market returns:

E(R_m) - R_f = \bar{y} \sigma_m^2 \\ \Rightarrow \text{Market risk premium} = \bar{y} \sigma_m^2

Where $\bar{y}$ represents the average investor’s risk aversion based on the CAPM theory.

Calculation:

$`$ 0.07` = \bar{y} (0.18)^2 \ \frac{0.07}{0.0324} = \bar{y} \ \bar{y} = 2.16

The average investor’s risk aversion coefficient is, therefore, 2.16.

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Variable	Forecast
Risk-free rate	3%
Market risk premium	7%
Standard deviation of market returns	18%

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Last updated: July 5, 2026 at 07:23

2.16

0.39

0.22

1.23