Question

********ASAP PLEASE******** ******The expected return of stock 1 is 16.32%. The expected return of stock 2...

********ASAP PLEASE********

******The expected return of stock 1 is 16.32%.

The expected return of stock 2 is 10.68%.

The beta of stock 1 is higher than the beta of stock 2 by 0.67.

If the Capital Asset Pricing Model holds, what is the expected market risk premium?

A.

7.48%
B.

6.84%
C.

9.85%
D.

8.42%
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Homework Answers

Answer #1

Let the beta of Stock 1 is X

Beta of stock 2 is X+0.67

Also let the Risk Premium be Y

Expected Return of Stock 1 = Rf + beta (Risk Premium)

16.32% = Rf + X (Risk Premium) _ _ _ (1)

Expected Return of Stock 2 = Rf + beta (Risk Premium)

10.68% = Rf + (X+0.67) * (Risk Premium)

10.68% = Rf + (X*Risk Premium +0.67* Risk Premium) _ _ _ (2)

subtracting equation (2) form equation (1)

5.64% = 0.67* Risk Premium

Risk Premium = 5.64% / 0.67

Risk Premium = 8.42%

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