Equity premia as low as three percent? Evidence from analysts' earnings forecasts for domestic and international stock markets

The returns earned by U.S. equities since 1926 exceed estimates derived from theory, from other periods and markets, and from surveys of institutional inves-tors. Rather than examine historic experience, we estimate the equity premium from the discount rate that equates market valuations with prevailing expecta-tions of future flows. The accounting flows we project are isomorphic to projected dividends but use more available information and narrow the range of reasonable growth rates. For each year between 1985 and 1998, we find that the equity pre-mium is around three percent (or less) in the United States and five other markets. THE EQUITY RISK PREMIUM LIES at the core of financial economics. Representing the excess of the expected return on the stock market over the risk-free rate, the equity premium is unobservable and has been estimated using different approaches and samples. The estimates most commonly cited in the aca-demic literature are from Ibbotson Associates ' annual reviews of the perfor-mance of various portfolios of U.S. stocks and bonds since 1926. Thos