Explanation

According to the Capital Asset Pricing Model (CAPM):

$E(R_i) = R_f + (E(R_m) - R_f) \times \beta_i$

Where:

• $E(R_i)$ = Expected return on asset i = 7%
• $R_f$ = Risk-free rate = 5%
• $E(R_m)$ = Expected market return (what we're solving for)
• $\beta_i$ = Beta of asset i = 0.8

Substituting the given values:

$7\% = 5\% + (E(R_m) - 5\%) \times 0.8$

Solving step by step:

1. $7\% - 5\% = (E(R_m) - 5\%) \times 0.8$
2. $2\% = (E(R_m) - 5\%) \times 0.8$
3. $\frac{2\%}{0.8} = E(R_m) - 5\%$
4. $2.5\% = E(R_m) - 5\%$
5. $E(R_m) = 2.5\% + 5\% = 7.5\%$

Therefore, the expected market return is 7.5%.