Sunday, 19 February 2012

Nominal risk free rate in local currency (Reading 38 - Valuation in Emerging Markets)

Nominal risk free rate in local currency = [{(1+Risk Free Rate based on 10-yr U.S. Government Bond Yield) x (1+local inflation)] / (1 + U.S. Inflation)}] - 1

Now this was something really confusing for me... I rearranged the formula and got this one


(1+Nominal RFR in Local Currency) / (1+local inflation) = (1+RFR on 10/Y US Govt. bond yield) / (1+US Inflation)

Obviously to calculate the percentage the 1+ thing is used but it is simply 

It implies that we are only taking a ratio of Local Inflation to US Inflation and then using the 10-year YTM on US Government bond and using that inflation ratio to calculate the Risk free rate in local currency. Quite simple to remember now!

1 comment:

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