Question

The risk-free rate is 5 percent. Stock A has a beta 1.2 and Stock B has a beta 1.4. Stock A has a required return of 11 percent. What is Stock B’s required return?

Answer 1

Stock required return formula is:

$rs = rf + b×(rm - rf),$ where rf is risk-free rate, b is beta, rm is market rate.

For stock A:

$0.11 = 0.05 + 1.2×(rm - 0.05),$

rm = 0.1.

Stock B’s required return is:

$rs = 0.05 + 1.4×(0.1 - 0.05) = 0.12$or 12 percent.