What Is Risk Premium?

Key Takeaways

Risk premium is basically the extra return you expect when you choose an investment that’s riskier than just keeping your money somewhere safer.

There are different types of risk premiums depending on things like market volatility, the chance a borrower won’t pay back (default risk), or how hard it is to sell an asset (liquidity).

Understanding risk premiums can help investors sort out which investments might be worth it, based on their investing style and risk profile.

Introduction

Investing is all about trying to get a good return without taking on more risk than you can handle. Some assets are considered safer than others, like government bonds or gold. On the other hand, investing in things like stocks, cryptocurrencies, or real estate usually means accepting higher risks.

Risk premium is a handy idea that helps guide investors as they look for ways to grow their money while keeping an eye on potential risks.

Risk Premium Explained

When you put your money into riskier options, there is a natural expectation of better returns. That extra bit you’re hoping to earn, compared to a safe investment, is what we call the risk premium. It’s basically the gap between what you hope to earn from a risky investment and what you could earn from a safe one.$SOL