Question

Problem 13-15 Using CAPM [LO4] A stock has an expected return of 10.5 percent, its beta is 1.15, and the risk-free rate is 5 percent. What must the expected return on the market be? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.) Market expected return %

Answer 1

The required rate of return on the company’s common stock is calculated using the using the Capital Asset Pricing Model (CAPM).

The formula for calculating the capital asset pricing model is given below:

Ke=Rf+[E(Rm)-Rf]

Where:

Rf=risk-free rate of return

Rm=expected rate of return on the market.

= Beta of the company

10.5= 5 + 1.15*(Rm- 5)

10.5= 5 + 1.15Rm- 5.75

1.15Rm= 11.25

Rm= 9.78

Therefore, the expected return on the market is 9.78%.