Suppose you observe the following situation: Security Pete Corp. Repete Co. Beta

Question

Suppose you observe the following situation: Security Pete Corp. Repete Co. Beta 1.25 .94 Expected Return .135 .108 Assume these securities are correctly priced. Based on the CAPM, what is the expected return on the market? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.) Expected return on market What is the risk-free rate? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.) Risk-free rate

Explanation / Answer

Only 1 that too first question per submission is allowed to be answered. Please find solution for 1st question.

Beta Expected return Pete Corp. 1.25 13.50% Repete Corp. 0.94 10.80% CAPM holds good so let's put these figues in CAPM formula Return= Risk free rate + Beta * Risk premium For Pete Corp. 13.5%= Risk free rate + 1.25 * Risk premium Risk Free rate= 13.5% - (1.25 * Risk premium) For Repete Corp. 10.80%= Risk free rate + 0.94 * Risk premium Risk Free rate= 10.80% - (0.94 * Risk premium) Putting risk free rate equation from both corporation equalizing 13.5% - (1.25 * Risk premium)= 10.80% - (0.94 * Risk premium) 13.5%-10.80%= (1.25-0.94)*Risk premium 2.70% =(1.25-0.94)*Risk premium 2.70% =(0.31)*Risk premium Risk premium= 2.70%/0.31 Risk premium= 8.71% Putting this risk premium in Pete return equation Risk Free rate= 13.5% - (1.25 * Risk premium) Risk Free rate= 13.5% - (1.25 * 8.71%) Risk Free rate= 2.61% Validating these rates in Repete Return= =2.61% + 0.94 * 8.71% Return= 10.80% So our anseres are correct Risk Free rate 2.61% Market return =2.61%+8.71% 11.32%

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