Assume that your Singapore subsidiary has a beta with respect to the Singapore market of 1.2 and that the Singapore central bank rate is 1.0%. The expected return on the Singapore market
Index is 13%. The corresponding Treasury rate is 2.25%, and the expected return on the S&P
500 Index is 10%. If the Singapore stock market is almost perfectly positively correlated with
The U.S. stock market and if exchange rate movements are uncorrelated with stock market
Movements, what is the expected return of your subsidiary in the U.S.? Round your answer to
The nearest tenth of a percent.

Question

Quizplus · Accepted Answer

To calculate the expected return of the subsidiary in the U.S., we need to use the following formula:

Expected Return = Risk-Free Rate + Beta * (Expected Market Return - Risk-Free Rate)

Risk-Free Rate = 2.25%
Beta = 1.2
Expected Market Return = 10% (since the Singapore market is positively correlated with the U.S. market and the Singapore market's expected return is 13%)

Expected Return = 2.25% + 1.2 * (10% - 2.25%)
Expected Return = 11.6% (rounded to the nearest tenth) To calculate the expected return of the subsidiary in the US, we need to use the following formula:
Expected Return = Risk-Free Rate + Beta (Market Risk Premium)
- Risk-Free Rate = 2.25%
- Beta = 1.2 (since the subsidiary has a beta with respect to the Singapore market of 1.2, we can assume this beta will remain the same in the US)
- Market Risk Premium = Expected Return on the Singapore Market - Risk-Free Rate = 13% - 1.0% = 12%
Expected Return = 2.25% + 1.2(12%) = 11.6%
Therefore, the best choice is B as it is the closest answer to the calculated expected return.

Assume That Your Singapore Subsidiary Has a Beta with Respect