The Equity Premium and Risk-Free Rate Puzzles in a Turbulent Economy: Evidence from 105 Years of Data from South Africa

This paper presents a detailed empirical examination of the South African equity premium; and a quantitative theoretic exercise to test the canonical inter-temporal consumption-based asset-pricing model under power utility. Over the long run, the South African stock market produced average returns six to eight percentage points above bonds and cash; and at the 20-year horizon, an investor would not have experienced a single negative realised equity premium over the entire 105-year period we examine. Yet, the maximum equity premium rationalised by the consumption-based model is 0.4%. The canonical macro-financial model closely matches the average risk-free rate, using realistic parameters for the coefficient of risk aversion and a positive rate of time preference.