Question

Assets X and Y plot on the security market line. Asset X has an expected return...

Assets X and Y plot on the security market line. Asset X has an expected return of 12% and a beta of 1.5, and asset Y has an expected return of 10% and a beta of 1.2. The expected market risk premium is:

a) 8.70% b) 9.54% c) 10.20% d) 6.67% e) 9.27%

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Answer #1

Expected return = Rf + Beta * Market risk premium

Expected return on Asset X = Rf + 1.5 * market risk premium

12% = Rf + 1.5market risk premium

Expected return on Asset Y = Rf + 1.2 * market risk premium

10% = Rf + 1.2 market risk premium

Here Two assets plt on the security market line, let us assume Rf of both assets are equal.

then

0.12 - 1.5market risk premium = Rf ------eq 1

0.10 - 1.2 market risk premium = Rf ------eq 2

0.12 - 1.5 market risk premiun = 0.10 - 1.2 market risk premium

0.3 market risk premium = 0.02

Market risk premium = 0.02 / 0.3 = 0.066667

Market risk premium = 6.67%

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