Stromboli Corporation has a current stock price of $24 and has just provided a $3 dividend. Dividends are expected to grow at 4%. If the company's Beta is 1.3 and the risk free rate is 4%,
Determine the expected stock market return.

Question

Quizplus · Accepted Answer

We can use the Capital Asset Pricing Model (CAPM) to calculate the expected stock market return. CAPM = Risk-free Rate + (Beta x Market Risk Premium).

First, we need to calculate the Market Risk Premium by subtracting the risk-free rate from the expected market return. Market Risk Premium = Expected Market Return - Risk-free Rate.

Assuming the expected market return is 10% (historical average), the Market Risk Premium would be 6% (10% - 4%).

Next, we can use the given Beta of 1.3 and plug it into the CAPM formula:

CAPM = 4% + (1.3 x 6%) 
CAPM = 12.8%

Therefore, the expected stock market return is 12.8%. However, the question is asking for the closest answer choice which is B) 14%.

Stromboli Corporation Has a Current Stock Price of $24 and Has