Which of the following represents the risk-free rate in financial calculations?

The risk-free rate is commonly represented by the interest rate on treasury bills, primarily because these are considered to have virtually no risk of default and are backed by the government. Treasury bills are short-term securities with maturities that typically range from a few weeks to a year, and they yield a return that reflects the prevailing interest environment without the credit risk associated with other investment types.

Using the interest rate on treasury bills as the risk-free rate provides a benchmark for evaluating the performance of riskier investments. This is crucial in financial calculations such as the Capital Asset Pricing Model (CAPM), where the risk-free rate is used in determining expected returns on equity investments compared to their risk.

The other options do not represent the risk-free rate:

• The average rate of return on all investments includes risk and therefore does not qualify as a risk-free measure.
• The cost of equity capital reflects the returns expected by investors given the risks associated with equity investments, which again includes risk and does not constitute a risk-free rate.
• The forecasted inflation rate deals with changes in purchasing power and is not a measure of the return or yield that investors can expect without taking on risk.

Therefore, the interest rate on treasury bills is the most accurate representation of the risk-free rate