Answer and Explanation:
To calculate the expected return of Johnson & Johnson Corporation stock, we can use the Capital Asset Pricing Model (CAPM). The CAPM formula is:
Expected return = Risk-free rate + Beta * (Market return - Risk-free rate)
Given the following information:
- Risk-free return = 6.5%
- Market portfolio expected return = 10.6%
- Market portfolio standard deviation = 16%
- Johnson & Johnson Corporation stock beta = 0.31
Let's substitute these values into the CAPM formula:
Expected return = 6.5% + 0.31 * (10.6% - 6.5%)
Calculating the market risk premium:
Market risk premium = Market return - Risk-free rate
Market risk premium = 10.6% - 6.5%
Now, we can calculate the expected return:
Expected return = 6.5% + 0.31 * Market risk premium
Finally, substituting the value of the market risk premium:
Expected return = 6.5% + 0.31 * (10.6% - 6.5%)
Now, we can simplify the expression to calculate the expected return.