Question

You are holding a stock that has a beta of 1.39 and is currently in equilibrium. The required return on the stock is 20.47%, and the expected return on the market portfolio is 16.50%. What would be the expected return on the stock if the expected market return increased to 21.00% while the risk-free rate and beta remained unchanged

Answer 1

Answer: 26.73%

Explanation:

You can calculate the expected return using the Capital Asset Pricing Model (CAPM).

Formula is:

Expected return = Risk free rate + beta * (Market return - risk free rate)

Use the previous figures to solve for the risk free rate:

20.47% = Rf + 1.39 * (16.50% - Rf)

20.47% = Rf + 22.935% - 1.39R

20.47% - 22.935% = Rf - 1.39Rf

-2.465% = -0.39Rf

Rf = -2.465% / -0.39

= 6.32%

New expected return is:

= 6.32% + 1.39 * (21% - 6.32%)

= 26.73%