Question

The risk-free rate of return is 3% while the market rate of return is 12%. Delta Company has a historical beta of .85. Today, the beta for Delta Company was adjusted to reflect internal changes in the structure of the company. The new beta is 1.15. What is the amount of the change in the expected rate of return for Delta Company based on this revision to beta?

Answer 1

Answer:

2.7%

Explanation:

Calculation for the amount of the change in the expected rate of return for Delta Company based on this revision to beta

First step is to calculate the Expected rate of return for Delta Company stock before adjustment

Expected rate of return for Delta Company stock before adjustment =3+.85(12-3)

Expected rate of return for Delta Company stock before adjustment =3+.85(9)

Expected rate of return for Delta Company stock before adjustment =3+7.65

Expected rate of return for Delta Company stock before adjustment=10.65%

Second step is to calculate the Revised expected return with new beta

Revised expected return with new beta = 3 + 1.15( 12 - 3)

Revised expected return with new beta=3+1.15(9)

Revised expected return with new beta=3+10.35

Revised expected return with new beta=13.35%

Last step is to calculate the Amount of change in the expected rate of return

Using this formula

Amount of change in the expected rate of return=Revised expected return with new beta-Expected rate of return for Delta Company stock before adjustment

Let plug in the formula

Amount of change in the expected rate of return = 13.35% - 10.65%

Amount of change in the expected rate of return=2.7%

Therefore the amount of the change in the expected rate of return for Delta Company based on this revision to beta will be 2.7%