Welcome to the Investors Trading Academy talking glossary of financial terms and events.
Our word of the day is “Risk-Free Rate”
The risk-free rate is the rate of return that investors require for investments with no risk. In essence, this return compensates investors for the time value of money. Inflation dictates that money in the future will not purchase as much as it does now, and the risk-free rate compensates investors for the time that their capital is tied up.
Typically, Treasury rates are used as measures of risk-free rates. It is generally good practice to match the duration of the Treasury holding to the length of time of the average return. Alternatively, there are arguments made that since equities are indefinite investment vehicles, the longest-term Treasury should be used.
Whatever you choose to use as the risk-free rate is not as important as staying consistent throughout your calculations. However, it is important that you choose a reasonable risk-free rate.

By Barry Norman, Investors Trading Academy

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