Assume the risk-free rate is 4.5% and the expected return on the market is 11%.You anticipate Stock XYZ to sell for $28 at the end of next year and pay a dividend of $2.The stock is currently selling for $26.50 with a beta of 1.2.You currently hold stock XYZ in a well-diversified portfolio.Assuming you have money to invest,you should:
A) Buy stock XYZ.
B) Sell stock XYZ.
C) Do nothing because it is properly valued.
D) Invest your money in the risk-free rate of return.
E) Both b and d above.

Question

Quizplus · Accepted Answer

The expected return for stock XYZ is (28.00 - 26.50 + 2.00)/26.50 = 0.132.
The required return based on the CAPM is .045 + 1.2(.11 - .045)= 0.123.
The expected return for next period is greater than the required return based on the CAPM.

Assume the Risk-Free Rate Is 4