Question

Stock A has a beta of 1.7 and has the same reward-to-risk ratio as stock B. Stock B has a beta of .8 and an expected return of 12 percent. What is the expected return on stock A if the risk-free rate is 4.5 percent?

Answer 1

20.43%

Step-by-step explanation:

Given;

Beta of stock A = 1.7

Beta of the stock B = 0.8

Expected return on stock B = 12%

Risk free rate of stock A = Risk free rate of Stock B = 4.5% (Since same reward-to-risk ratio)

Now,

The expected return of stock B

= Risk free rate + (Beta × Market Risk premium)

on substituting the respective values, we get

12% = 4.5% + (0.8 × Market Risk premium )

or

Market Risk premium = 9.375%

Also,

The expected return of stock A

= 4.5% + (1.7 × 9.375)

or

= 20.43%