CAMPChapterHWKey

CAMPChapterHWKey - Homework Key Risk, Return, and Capital...

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Homework Key Risk, Return, and Capital Budgeting 7. Required return = r f + β (r m – r f ) = 6% + [1.25 × (13% – 6%)] = 14.75% Expected return = 16% The security is underpriced. Its expected return is greater than the required return given its risk. 8. Beta tells us how sensitive the stock return is to changes in market performance. The market return was 4 percent less than your prior expectation (10% versus 14%). Therefore, the stock would be expected to fall short of your original expectation by: 0.8 × 4% = 3.2% The ‘updated’ expectation for the stock return is: 12% – 3.2% = 8.8% 10. The following table shows the average return on Tumblehome for various values of the market return. It is clear from the table that, when the market return increases by 1%, Tumblehome’s return increases, on average, by 1.5%. Therefore, β = 1.5. If you prepare a plot of the return on Tumblehome as a function of the market return, you will find that the slope of the line through the points is 1.5.
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CAMPChapterHWKey - Homework Key Risk, Return, and Capital...

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