What is the risk free rate used in the Eurozone? is it the German?

you must be compenstated for the risk you are taking since when the rf rate increases you can earn a higher return in a security without risk such as a 3 month t-bill

Equity decreases when Rf rises as interest obligations on debt increase. This volatility is protected by call. Look at it another way. Due to convexity when interest rates fall volatility decreases on call, and when interest rates rise, volatility increases. Draw the curve to confirm. So the reason is convexity.

Check out page 12 and 13 of this Damodaran paper. Should do a good job of answering your questions.

http://people.stern.nyu.edu/adamodar/pdfiles/papers/riskfreerate.pdf

Thank you rcm!

I was actually reading that paper and felt that Damodaran did not explain that section in detail. For example, he just says that the difference is because of the difference in expected inflation for each currency. However, he does not explain in detail how the expected inflation impacts the bond prices.

However, I think I understand it now after reading the paper again. I think the explanation of the impact of expected inflation would go something like this: If in the US the public and/or the Federal Reserve expects inflation to move one way or the other, they will use monetary policy to address that expectation. Therefore, the policy they choose and the interest rates they target/choose will impact the supply and demand on the bonds leading to a price. However, if in the UK, they have different expectations of inflation based on their unique economy their actions will be different and therefore their prices will be different.

Does that sound right?

Doing a little more research I found an article (I don't have enough points to post a link. However, here is a quote from the article that sums it up:

"Fixed-income securities in foreign countries that yield more than the U.S. usually do so for a reason – their inflation rates are higher, which causes their currency to depreciate in relation to the U.S. dollar. Under the theoretical principle of "interest rate parity," the difference in interest rates between countries should be offset entirely by the difference in inflation rates."

Thanks again for pointing me in the right direction!

If the company's main operations are in Brazil but it is traded on let's say NYSE, use the U.S Government Treasuries as your risk free rate. The equity risk premium is where you account for the potential volatility the market prices in for emerging markets.

http://en.wikipedia.org/wiki/Capital_asset_pricing_model#Modified_formula

Just add it on top of everything else (still should use US bonds for the risk-free rate).

The estimate for sovereign risk premium can be inferred from market valuations of comparable companies in Brazil vs "risk-free" geographies.

I think Investment Valuation: Tools and Techniques for Determining the Value of Assets by Aswath Damodaran covers exactly what you are asking. Search for "Should there be a country risk premium" - i think the section covering this topic can be read on google books (p. 166 - ).