Question

Problem 6-03 Required Rate of Returns Suppose that the risk-free rate is 3.5% and that the market risk premium is 5%. What is the required rate of return on a stock with a beta of 1.1? Round your answer to two decimal places. % What is the required rate of return on a stock with a beta of 1.6? Round your answer to two decimal places. % What is the required rate of return on the market? Round your answer to two decimal places. %

Answer 1

As per Capital Asset Pricing Model [CAPM], the Required Rate of Return is computed by using the following equation

Required Rate of Return = Risk-free Rate + [Beta x Market Risk Premium]

Required rate of return on a stock with a beta of 1.1

Required Rate of Return = Risk-free Rate + [Beta x Market Risk Premium]

= 3.50% + [1.1 x 5.00%]

= 3.50% + 5.50%

= 9.00%

Required rate of return on a stock with a beta of 1.6

Required Rate of Return = Risk-free Rate + [Beta x Market Risk Premium]

= 3.50% + [1.6 x 5.00%]

= 3.50% + 8.00%

= 11.50%

Required rate of return on the market

The Beta of the Market will be always equal to 1

Therefore, The Required Rate of Return = Risk-free Rate + [Beta x Market Risk Premium]

= 3.50% + [1 x 5.00%]

= 3.50% + 5.00%

= 8.50%