CMA Final · Strategic Financial Management · Asset Pricing Theories
A stock has a beta of 1.4. The risk-free rate is 6% and the expected return on the market portfolio is 11%. Under CAPM, what is the required return on the stock?
The required return is 13%. CAPM adds to the risk-free rate of 6% a risk premium equal to beta times the market premium, which is 1.4 multiplied by 5%, giving 7%. Hence 6% plus 7% equals 13%.
- A13.0%Correct
- B15.4%
- C14.0%
- D12.6%
Explanation
CAPM: Rf + beta x (Rm - Rf) = 6 + 1.4 x 5 = 6 + 7 = 13%. The 15.4% option multiplies beta by the market return (1.4 x 11) instead of the premium. The 14.0% option adds 1.4 x ... incorrectly by using beta x 5 + 7.
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