Question

Beta coefficient for P Ltd is 1.70. Expected return from market is 7.90 per cent; whereas, govt bond yields at 5.25 per cent. Tax rate is 30 per cent. If the share of P Ltd realises 9.80 per cent return, find the correct statement about P Ltd share from the following: Group of answer choices

Expected return is 9.84 per cent and under-priced

Expected return is 13.43 per cent and under-priced

Expected return is 9.84 per cent and overpriced

Expected return is 13.43 per cent and overpriced

Answer 1

The expected rate of return is to be calculated by using Capital Asset pricing model and the return on the government bond yield, is considered as a risk free rate of return because the government bond yield is risk free.

CAPM return= Rf+Beta (Rm-Rf)

= 5.25+1.7(7.90-5.25)

=9.84%

It is given that the share of P limited will realise 9.8%.

So it can be said that the expected rate of return is 9.84 % and the company is generating a rate of return 9.8% return and it will mean that it is performing poorly and lower than expectation and it is overpriced.

Correct answer would be option ( C) 9.84% and overpriced