This chapter has explored the subject of capital market history. Such history is useful because it tells us what to expect in the way of returns from risky assets. We summed up our study of market history with two key lessons:

Ross et al.: Fundamentals I V. Risk and Return I 12. Some Lessons from I I © The McGraw-Hill of Corporate Finance, Sixth Capital Market History Companies, 2002

Edition, Alternate Edition

408 PART FIVE Risk and Return

1. Risky assets, on average, earn a risk premium. There is a reward for bearing risk.

2. The greater the potential reward from a risky investment, the greater is the risk.

These lessons have significant implications for the financial manager. We will be considering these implications in the chapters ahead.

We also discussed the concept of market efficiency. In an efficient market, prices adjust quickly and correctly to new information. Consequently, asset prices in efficient markets are rarely too high or too low. How efficient capital markets (such as the NYSE) are is a matter of debate, but, at a minimum, they are probably much more efficient than most real asset markets.

Chapter Review and Self-Test Problems

12.1 Recent Return History Use Table 12.1 to calculate the average return over the years 1996 through 2000 for large-company stocks, long-term government bonds, and Treasury bills.

12.2 More Recent Return History Calculate the standard deviation for each security type using information from Problem 12.1. Which of the investments was the most volatile over this period?

Answers to Chapter Review and Self-Test Problems

12.1 We calculate the averages as follows:

Actual Returns
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