You are considering investing in Digital Consolidated's common stock. Based on your perception of Digital's riskiness, you will require a return of 8.5% on their stock. Digital's most recent beta is 1.20. The risk-free rate is currently 3.25%, while the market return is currently 7.75%. Based on these data, should you invest in Digital's stock?
A) No, because Digital's expected return is less than your required return.
B) You are indifferent, because Digital's expected return is equal to your required return.
C) Yes, because Digital's expected return is equal to your required return.
D) Yes, because Digital's expected return exceeds your required return.

Question

Quizplus · Accepted Answer

Using the Capital Asset Pricing Model (CAPM), the expected return on Digital's stock can be calculated as: Expected Return = Risk-Free Rate + Beta * (Market Return - Risk-Free Rate) = 3.25% + 1.20 * (7.75% - 3.25%) = 3.25% + 1.20 * 4.5% = 3.25% + 5.4% = 8.65%. Since the expected return of 8.65% is greater than your required return of 8.5%, you should invest in Digital's stock.

You Are Considering Investing in Digital Consolidated's Common Stock