Trading term

What is Risk-free rate?

The risk-free rate is the return you can get without taking on credit risk, and in practice it's the yield on short-dated government debt. It's the baseline every other investment gets measured against, and "risk-free" is a modelling convention rather than a promise.

Asking whether a return is any good is meaningless without something to compare it against. The risk-free rate is that something: the rate you could have earned while taking essentially no chance of not being repaid. In practice people use short-dated government debt in whatever currency they're working in, so US Treasury bills for dollars, gilts for sterling, Bunds for euros.

It's the floor under everything else. Every other rate is the risk-free rate plus a margin for the possibility that you don't get your money back. In 2025, with the US policy rate averaging 4.21%, a large company's bonds yielded 6.00% and a credit card charged 21.22%. Those extra points are the price of risk, and they're what you're being paid to accept. An investment offering no more than the risk-free rate is asking you to take risk for nothing.

"Risk-free" names exactly one risk, though, and that's credit risk. It does not mean free of every risk. Inflation still takes its share, so a bond paying 4.21% while prices rise 2% earns a real 2.17%, and an inflation surprise can push that below zero. There's currency risk if the bond isn't in the money you spend. The price moves too if you sell before maturity. It's a convention that makes the comparison possible, not a description of something safe.

For example

A fund offers you 4.5% a year and short-dated government debt is paying around 4.2%. You're being offered about 0.3 points to accept everything that fund could get wrong. That comparison is the whole reason the risk-free rate exists.

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Why it matters to you

With no baseline, every return sounds decent. The risk-free rate turns "6%" into "1.79 points more than I could have had for taking no credit risk," and that second version is the only one worth judging. It also explains why investments look less attractive when rates rise. The bar itself moves up, and everything gets measured against the bar.

⚠ Risk-free does not mean safe

The name is about one thing only, which is the expectation that the government pays what it promised. A government bond can still lose you purchasing power to inflation, lose value against the currency you actually spend, and fall in price if you need to sell before it matures. Reading "risk-free" as "can't lose" is how people end up startled by a bond that went down.

Frequently asked questions

What is the risk-free rate?

It's the return available with essentially no credit risk, used as the baseline for judging every other investment. It answers the question of what you could earn without taking a chance on being repaid.

What is used as the risk-free rate?

Short-dated government debt in the relevant currency, such as US Treasury bills for dollars. Valuations with a long horizon sometimes use a longer government bond instead, so it's worth checking which maturity a given figure refers to.

Is the risk-free rate actually risk-free?

No. It's free of credit risk only. Inflation can still leave you with a negative real return, the currency can move against you, and the bond's price falls if rates rise and you sell early. The name is a modelling shorthand.

Why does the risk-free rate matter for stocks?

It sets the baseline for discounting. A company's future cash is valued today using a rate built on top of the risk-free rate, so when that rate rises, the same future money is worth less now. It's also the return you could get without owning stocks at all, which is the alternative every stock competes with.

Read the full guide

How markets workWhat Is an Interest Rate? Who Sets It, and Why It Moves Your MoneyAn interest rate is the price of borrowing money for a year. Who sets it, why it moves, and why everything you own gets repriced when it does.12 min read

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