The risk-free rate represents the rate of return earned by investing in the risk-free asset. Two conditions must be met before an asset can be considered to be completely risk free. Firstly there must be no risk of default associated with the asset. Secondly the asset’s actual return must be equal to its expected return.in reality, there is no investments are totally risk free, bonds issued by the governments of politically and economically stable countries are generally considered to be free from risk of default. From our calculation the risk-free rates were calculated based on quarterly in a year. The reason why we decided to calculate the risk-free rate by 3-month basis is because of the shorter term to minimize the risks of inflation and market interest rate changes.
Equity risk premium is the excess return that an individual stock or the overall stock market provides over a risk-free rate. This excess return compensates investors for taking on the relatively higher risk of the equity market. The size of the premium will vary as the risk in a particular stock, or in the stock market as a whole; high-risk investments are compensated with a higher premium. As refer to the calculation of the equity risk premium, it shown different risk premium require by the investor to choose Kulim stock instead of risk-free treasury bill over the 7 years. For example investors require 41% (eg. Year 2009) of additional return to choose the portfolio of risky stock.
As come to the abnormal return part, from the calculation we noticed the overall of the actual return on Kulim stock are higher than the expected return by using CAPM calculation, except the year 2008 because it may due to the economy recession during that time. From the result shown, if investors hold Kulim stock they can make a high abnormal return from the Kulim