Financial Risk Manager Part 1
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What is the expected return of a stock if the expected market return is 11%, the risk-free rate is 9%, and the stock's beta is 0.91?
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TTanishq
A
0.11
B
0.1991
C
0.1082
D
0.1753
Explanation:
According to CAPM:
Expected return of stock = Risk-free rate + beta (Market risk - Risk-free rate)
E[r] = 9% + 0.91(11%-9%) = 10.82%
Explanation: The Capital Asset Pricing Model (CAPM) formula is used to calculate the expected return of a stock:
E[r] = Rf + β(Rm - Rf)
Where:
- Rf = Risk-free rate = 9% = 0.09
- Rm = Expected market return = 11% = 0.11
- β = Beta = 0.91
Plugging in the values: E[r] = 0.09 + 0.91(0.11 - 0.09) E[r] = 0.09 + 0.91(0.02) E[r] = 0.09 + 0.0182 E[r] = 0.1082 = 10.82%
This represents the required return on the stock given its systematic risk (beta) relative to the market.
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