Question

The stock of Big Joe's has a beta of 1.50 and an expected return of 12.60 percent. The risk-free rate of return is 5.1 percent. What is the expected return on the market? Multiple Choice 4.95% 8.60 % 10.10% 15.15% 7.50%

Answer 1

12.60% = 5.1% + 1.50 * (Expected market return - 5.1%)

Based on CAPM, Expected return on stock = Risk free rate + Beta * (Expected market return - Risk free rate)

7.50% = 1.50 * (Expected market return - 5.1%)

5% = (Expected market return - 5.1%)

Expected market return = 10.10%

Answer 2

CAPM Ret = Risk Free Rate + Beta ( Market ret - Risk Free ret )

12.6% = 5.1% + 1.5 ( Rm - 5.1% )

1.5 ( Rm - 5.1% ) = 12.6% - 5.1%

= 7.5%

Rm - 5.1% = 7.5% / 1.5

= 5%

Rm = 5% +5.1%

= 10.1%

Option C is correct