Suppose Pepsi Co. has a beta of 0.7, whereas the beta of Microsoft is 1.1. The risk free interest rate is 3% and the market risk premium is 6%. a. What is the expected return of Pepsi Co. according to CAPM? b. What is the expected return of Microsoft according to the CAPM?

Suppose Pepsi Co. has a beta of 0.7, whereas the beta of Microsoft is 1.1. The risk free interest rate is 3% and the market risk premium is 6%. a. What is the expected return of Pepsi Co. according to CAPM? b. What is the expected return of Microsoft according to the CAPM?

Intermediate Financial Management (MindTap Course List)

13th Edition

ISBN:9781337395083

Author:Eugene F. Brigham, Phillip R. Daves

Publisher:Eugene F. Brigham, Phillip R. Daves

Chapter3: Risk And Return: Part Ii

Section: Chapter Questions

Problem 2Q: Security A has an expected rate of return of 6%, a standard deviation of returns of 30%, a...

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Concept explainers

Risk and return

Before understanding the concept of Risk and Return in Financial Management, understanding the two-concept Risk and return individually is necessary.

Capital Asset Pricing Model

Capital asset pricing model, also known as CAPM, shows the relationship between the expected return of the investment and the market at risk. This concept is basically used particularly in the case of stocks or shares. It is also used across finance for pricing assets that have higher risk identity and for evaluating the expected returns for the assets given the risk of those assets and also the cost of capital.

Question

Suppose Pepsi Co. has a beta of 0.7, whereas
the beta of Microsoft is 1.1. The risk free
interest rate is 3% and the market risk
premium is 6%.
a. What is the expected return of Pepsi Co.
according to CAPM?
b. What is the expected return of Microsoft
according to the CAPM?

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May I know the answer
How would I do the same calculation if Beta is 1.2? That would be 1-1.2= -0.2 invested in the money market. How does that make sense?