You are considering purchasing a stock that has a beta of 1.4. The risk-free rate is 3% and the market risk premium is 8%. If the stock is expected to return 12%, then should you purchase the stock?

Question

You are considering purchasing a stock that has a beta of 1.4.   The risk-free rate is 3% and the market risk premium is 8%.   If the stock is expected to return 12%, then should you purchase the stock?

Quizplus · Accepted Answer

Given the stock's beta of 1.4, the risk-free rate of 3%, and the market risk premium of 8%, the expected return according to the Capital Asset Pricing Model (CAPM) is 3% + 1.4 * 8% = 14.2%. Since the stock's expected return of 12% is less than the CAPM expected return of 14.2%, it is not considered a good buy based on this model.

You Are Considering Purchasing a Stock That Has a Beta