Stock Y has a beta of 1.0 and an expected return of 13.5 percent. Stock Z has a

Question

Stock Y has a beta of 1.0 and an expected return of 13.5 percent. Stock Z has a beta of 0.6 and an expected return of 9.0 percent. If the risk-free rate is 5.8 percent and the market risk premium is 6.8 percent, the reward-to-risk ratios for stocks Y and Z are and percent, respectively. Since the SML reward-to-risk is percent, Stock Y is and Stock Z is .

expected return of 9.0 percent. If the risk-free rate is 5.8 percent and the market risk premium is 6.8 percent, the reward-to-risk ratios for stocks Y and Z are percent, the reward-to-risk ratios for s respectively. Since the SML reward-to-risk is Stock Z is l (Click to select) Round your answers to 2 decimal places. (e.g., 32.16)) and percent, 1 percent, Stock Y is percent, Stock Y is (Click to select)and (Click to select) and

Explanation / Answer

Return for tock Y =   5.8 + [6.8 *1 ]

                               = 5.8 +6.8 = 12.6%

Risk reward ratio = 12.6 /1 = 12.6%

Return for stock Z = 5.8 + [.6 *6.8]

                        = 5.8 +4.08= 9.88

Ratio =9.88 /.6 = 16.47%

SML reward ratio = Beta of market is = 1 =   [5.8+ 1(6.8)] = 12.6%

the reward-to-risk ratios for stocks Y and Z are   7.94 and   6.07 %

Since the SML reward-to-risk is 12.6 percent, Stock Y is fairly priced   and Stock Z is .overvalued .

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