MGT201 GDB # 2 Solution

Shared By:- Hafiz Salman

“Discussion Question”

Given a risk-free rate of 8 percent and a market risk premium of 9.5 percent, based on the betas given in the following table:
Security
Beta

A
0.95

B
1.25


1. Calculate required rate of return of each stock?

2. If Ahmed is a risk lover investor, he will prefer to invest in which stock?

3. As against it, Shahzad is a risk averse investor; he will prefer to invest in which stock?

Solution:-

Market Premium is nothing but a kind of reward which is offered by the market for taking extra risk in the market for the participant. Market Premium is a difference of Expected Market Return and Risk-Free Rate .
Market Premium = Expected Market Return - Risk-Free Rate
Question#1 Answer
Required rate of return for A
Rce = rRF + (rM – rRF) (beta)
Rce = 0.08 + (0.095)(0.95)
Rce = 0.08+0.09025
Rce = 0.17025x100
Rce = 17.025%

Required rate of return for B
Rce = rRF + (rM – rRF) (beta)
Rce = 0.08 + (0.095)(1.25)
Rce = 0.08+0.11875
Rce = 0.19875x100
Rce = 19.875%

Q 2.
Ahamad will invest in Stock B

Q.3
Shahzad will invest in Stock A

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