Question

Here are data on two companies. The T-bill rate is 4.8% and the market risk premium is 5.9%. Company $1 Discount Store Everything $5 Forecast return 12 % 11 % Standard deviation of returns 12 % 14 % Beta 1.6 1.0 What would be the fair return for each company, according to the capital asset pricing model (CAPM)

Answer 1

Answer:

$i Discount Store 14.24%

Everything $5 10.7%

Explanation:

Calculation for What would be the fair return for each company

Using this formula

Fair Return = Rf + Beta(Rm-Rf)

Where,

Rf represent Risk-free return

Beta represent Beta coefficient

Rm represent Market Risk Premium

Let plug in the formula

Calculation for $i Discount Store fair return

Fair Return = 4.8% + 1.6*(10.7%-4.8%)

Fair Return=0.048+1.6(0.059)

Fair Return=0.048+0.0944

Fair Return=0.1424*100

Fair Return=14.24%

Therefore $i Discount Store fair return will be 14.24%

Calculation for Everything $5 fair return

Fair Return = 4.8% + 1.0*(10.7%-4.8%)

Fair Return=0.048+1.0(0.059)

Fair Return=0.048+0.059

Fair Return=0.107*100

Fair Return=10.7%

Note :T-bill rate 4.8% + Market risk premium 5.9% =10.7%

Therefore Everything $5 fair return will be 10.7%