Question

Stock A has a beta of 3, the risk-free rate is 4% and the return on the market is 9%. If the market risk premium changes by -2%, by how much will the required return on Stock A change?

Answer 1

The cost of equity will decrease by 6%

Step-by-step explanation:

CAMP under first asumptions

`Ke= r_f + \beta (r_m-r_f)`

risk free 0.04

market rate 0.09

premium market market rate - risk free 0.05

beta(non diversifiable risk) 3

`Ke= 0.04 + 3 (0.05)`

Ke 0.19000

Second Assumptions

`Ke= r_f + \beta (r_m-r_f)`

risk free 0.04

market rate

premium market market rate - risk free 0.03

beta(non diversifiable risk) 3

`Ke= 0.04 + 3 (0.03)`

Ke 0.13000

CAMPa 19% CAMPb 13% difference 6%

a simply way to calculate, which is demostrate for the prevous calculations:

β x rm 3 x -2% = -6%