Corp has a beta of 1.5 and is currently in equilibrium.The required rate of return on the stock is 12.00% versus a required return on an average stock of 10.00%.Now the required return on an average stock increases by 30.0% Neither betas nor the risk-free rate change.What would CCC's new required return be?
A)14.89%
B)15.68%
C)16.50%
D)17.33%
E)18.19%

Question

Quizplus · Accepted Answer

Given, 
Beta of Corp = 1.5
Required rate of return on Corp stock = 12.00%
Required return on an average stock = 10.00%

The market premium (which is the difference between the required return on Corp stock and the risk-free rate) can be calculated as follows:
Market premium = Required rate of return on Corp stock - Risk-free rate
Market premium = 12.00% - Risk-free rate

We know that the required return on an average stock has increased by 30%. Therefore, the new required return on an average stock would be:
New required return on an average stock = 10.00% + (30% * 10.00%)
New required return on an average stock = 13.00%

We can now calculate the new market premium as follows:
New market premium = 13.00% - Risk-free rate

Since beta and the risk-free rate have not changed, the Capital Asset Pricing Model (CAPM) formula can be used to find the new required return on Corp stock:
New required return on Corp stock = Risk-free rate + (Beta * New market premium)
New required return on Corp stock = Risk-free rate + (1.5 * (13.00% - Risk-free rate))
New required return on Corp stock = (1.5 * 13.00%) - (0.5 * Risk-free rate)

Since we do not know the value of the risk-free rate, we cannot calculate the exact value of the new required return on Corp stock. However, we can see that the closest option is C) 16.50%. Therefore, the best choice is C) 16.50%.

Corp Has a Beta of 1