Question

The risk-free rate is 5 percent. Stock A has a beta = 1.0 and Stock B has a beta = 1.4. Stock A has a required return of 11 percent. What is Stock B’s required return?

a. 12.4%

b. 13.4%

c. 14.4%

d. 15.4%

e. 16.4%

Answer 1

Required rate of return as per CAPM

Re = Rf + (Rm – Rf) x Beta

Where,

Re = Required rate of return = 11% for stock A

Rf = Risk free rate of return = 5%

Rm = Return on market

Beta = Beta of the stock = 1 for stock A

So, putting these values of stock A in above equation we get

11 = 5 + (Rm – 5) x 1

So, Rm – 5 = 11 – 5

So, Rm = 6 + 5

= 11%

Putting these values for stock B

= 5 + (11 – 5) x 1.4

= 5 + 8.4

= 13.4%

So, as per above calculations, option b is the correct option