Demeter Designs stock has a beta of 0.68, the risk free rate is 1.85%, and the expected return on the market is 9.6%. The expected return on the stock is closest to:
Demeter Designs stock has a beta of 0.68, the risk free rate is 1.85%, and the expected return on the market is 9.6%. The expected return on the stock is closest to:
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
Problem 1PS
Related questions
Question
![**Title: Calculating Expected Return Using the Capital Asset Pricing Model (CAPM)**
**Demeter Designs Stock Analysis**
Demeter Designs stock has several important financial metrics that are necessary for calculating the expected return using the Capital Asset Pricing Model (CAPM). These metrics are:
- **Beta (β):** 0.68
- **Risk-Free Rate (Rf):** 1.85%
- **Expected Market Return (Rm):** 9.6%
The question posed is to determine the expected return on the stock, which is closest to:
1. **Option a:** 6.53%
2. **Option b:** 8.38%
3. **Option c:** 7.12%
**Explanation of the CAPM Formula:**
The CAPM formula helps in calculating the expected return on a stock by considering its sensitivity to systematic risk (beta), the risk-free rate, and the expected market return. The formula is as follows:
\[ \text{Expected Return} = Rf + \beta \times (Rm - Rf) \]
By substituting the given values into the formula, you can calculate which of the provided options is closest to the expected return on Demeter Designs stock.
**Instructions:**
To answer the question, select an option and submit. For keyboard navigation, use the up/down arrow keys to select an answer.](/v2/_next/image?url=https%3A%2F%2Fcontent.bartleby.com%2Fqna-images%2Fquestion%2Fde623c10-ef3b-4bed-a459-f166acb86a4d%2F40998433-42f2-4e39-9f77-c43c057ddab3%2Fvgbcri_processed.jpeg&w=3840&q=75)
Transcribed Image Text:**Title: Calculating Expected Return Using the Capital Asset Pricing Model (CAPM)**
**Demeter Designs Stock Analysis**
Demeter Designs stock has several important financial metrics that are necessary for calculating the expected return using the Capital Asset Pricing Model (CAPM). These metrics are:
- **Beta (β):** 0.68
- **Risk-Free Rate (Rf):** 1.85%
- **Expected Market Return (Rm):** 9.6%
The question posed is to determine the expected return on the stock, which is closest to:
1. **Option a:** 6.53%
2. **Option b:** 8.38%
3. **Option c:** 7.12%
**Explanation of the CAPM Formula:**
The CAPM formula helps in calculating the expected return on a stock by considering its sensitivity to systematic risk (beta), the risk-free rate, and the expected market return. The formula is as follows:
\[ \text{Expected Return} = Rf + \beta \times (Rm - Rf) \]
By substituting the given values into the formula, you can calculate which of the provided options is closest to the expected return on Demeter Designs stock.
**Instructions:**
To answer the question, select an option and submit. For keyboard navigation, use the up/down arrow keys to select an answer.
Expert Solution
Step 1
As per CAPM
Ri = Rf + B (Rm - Rf)
Where
Ri = Return on equity
Rf = Risk free rate of return
B = Beta of security
Rm = Return from market
Step by step
Solved in 3 steps
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