Question

If the market risk premium is 6%, the risk-free rate is 3.5% and the beta of a stock is 2.4, what is the expected return of the stock?

Answer 1

CAPM or the capital asset pricing model tells

Rp (Return on the portfolio ) = Rf (Risk free return ) + Beta * (Rm(risky market portfolio – Rf(risk free)

Or

Rp = Rf + Beta * (Rm –Rf)

This Rm- Rf = is sometimes known as the market risk premium .

So we are given with

Rf risk free =3.5%

Rm-Rf = 6% the risk premium

Beta of the stock given at 2.4

So the Expected return as per the CAPM is

Er = 3.5 + 2.4 *(6) = 17.9 %    is the expected return

Thanks