The risk free rate is a key concept when valuing potential investments and balancing portfolios. It is simply the current interest rate paid on any investment deemed to be 'risk free' (i.e. US/UK/German government bonds, savings accounts etc.). All other forms of investment should pay a higher interest rate than these, or else it is not worth investing in them for the additional risk taken on. The risk free rate is used in the Capital Asset Pricing Model to value assets, and all portfolios should contain a certain percentage of money in risk-free assets as a means of diversification. Another way of thinking about the risk-free rate is that it is the absolute minimum return an investment should offer.
To learn more about this concept and become a master at bonds and fixed income, you should check out our Bond Course - Fixed Income (coming soon!).
- Interest Rate (IR)
- Capital Asset Pricing Model (CAPM)
- Central Bank
- Opportunity Cost