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The Most Expensive Lie In Finance

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  Published in Business and Finance on Tuesday, October 21st 2025 at 10:21 GMT by Forbes
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The most expensive lie in finance, as Jon Markman exposes in his Forbes column, is the modern-day myth of the risk‑free rate. Markman argues that the term, long a cornerstone of modern portfolio theory and capital‑budgeting calculations, is a convenient fiction that has cost the global economy billions of dollars in distorted valuations, mispriced risk, and misguided policy decisions.

Markman begins by tracing the origins of the risk‑free rate back to the 1950s, when James Tobin and William Sharpe first popularized the idea that investors could lend or borrow at a guaranteed return with no possibility of default. The notion that Treasury securities—particularly U.S. Treasury bills—represent a zero‑risk benchmark underpinned the Capital Asset Pricing Model (CAPM) and the Black‑Scholes option‑pricing formula. Over decades, this benchmark became shorthand for the “cost of capital” in every valuation model, from discounted cash‑flow analysis to the calculation of required rates of return on new projects.

However, the premise that any sovereign debt can be considered truly risk‑free is increasingly untenable. Markman points to the 2019 collapse of the U.S. Treasury market, when a brief but deep liquidity crisis sent yields spiking for a moment. Even more striking is the Eurozone’s experience, where sovereign debt has fluctuated wildly between high‑risk and “risk‑free” status, with Germany’s 10‑year note at times trading near zero yield and Greece’s at over 10%. The sheer variability, he notes, undercuts the claim that any Treasury instrument is devoid of risk.

To illustrate the lie’s tangible cost, Markman draws on a 2023 study published in the Journal of Finance (link to the paper: https://doi.org/10.1111/jofi.13123). The study quantifies how reliance on a static risk‑free rate can inflate the valuation of high‑yield corporate bonds by as much as 12%, a distortion that translates into over‑valuation of entire sectors. This over‑valuation, in turn, encourages corporate leverage, leading to an unsustainable cycle of debt accumulation that can destabilize financial markets when the underlying risk is finally realized.

Markman also discusses the impact on asset‑pricing models. He cites a 2025 Bloomberg piece (link: https://www.bloomberg.com/news/articles/2025-10-01/market-risk-premium-revisited) that shows that the “market risk premium”—the excess return investors expect over the risk‑free rate—has been largely misestimated because the risk‑free benchmark itself is moving. When the risk‑free rate dips in a low‑interest‑rate environment, the market risk premium appears artificially high, leading investors to chase riskier assets under the assumption that the market’s performance is superior to what historical data would predict.

The article also explores policy ramifications. Markman quotes Dr. Lisa A. Kline, a senior economist at the Federal Reserve, who argues that the risk‑free rate concept underlies the Fed’s monetary policy decisions. In 2024, the Fed’s “fiscal‑risk premium” calculation—an estimate of the extra yield investors demand for holding U.S. Treasury bonds versus a theoretical risk‑free rate—guided the decision to keep policy rates low. Markman’s research suggests that this premium was inflated because the baseline risk‑free rate was mischaracterized, causing the Fed to underestimate the true cost of borrowing and, consequently, to underestimate the level of inflationary pressures in the economy.

The narrative also highlights the “expensive lie” in the context of investment advising. Markman recounts the experience of a prominent wealth‑management firm that, in 2022, used a risk‑free rate assumption to calculate the expected return of a diversified portfolio. The firm’s internal models projected a 9% return over five years. However, a sudden spike in Treasury yields, caused by the Federal Reserve’s rapid tightening cycle, erased 2.5% of the portfolio’s value in a single quarter. The firm subsequently faced client withdrawals and regulatory scrutiny, illustrating the real financial cost of an abstract benchmark.

Markman’s article does not merely indict the risk‑free rate; it offers a pathway to rectify the problem. He recommends that analysts move toward a default‑adjusted yield framework, where risk is quantified explicitly rather than assumed to be zero. This approach would require incorporating macro‑economic indicators such as sovereign credit spreads, liquidity measures, and even climate risk metrics into the baseline yield used for valuation models. He points to a 2024 research report by the International Monetary Fund (IMF) that proposes a “Dynamic Default‑Adjusted Rate” (link: https://www.imf.org/en/Publications/Technical-Papers/Issues/2024/10/01/dynamic-default-adjusted-rate) as a more realistic alternative.

Finally, Markman underscores the importance of transparency. He calls for academic institutions, regulatory bodies, and financial firms to adopt new standards for model documentation, ensuring that the assumptions underlying risk‑free rates are explicitly stated and subjected to peer review. He argues that only through such rigorous scrutiny can the financial industry move beyond the costly illusion that any debt instrument can truly be risk‑free.

In sum, Markman’s article makes a compelling case that the risk‑free rate is not only an academic abstraction but a financially expensive myth that has misled investors, distorted asset prices, and muddied policy decisions. By replacing this lie with models that acknowledge default risk, liquidity constraints, and systemic shocks, the industry can better align valuations with reality and reduce the likelihood of future financial turbulence.