The expected return of a stock is 13 percent, and its beta is 1.08. If the risk-free rate is 5.5 percent and the stock is correctly priced, what is the slope of the security market line?
A) 7.50%
B) 7.38%
C) 5.73%
D) 6.94%
E) 7.09%

Question

Quizplus · Accepted Answer

The formula for the security market line is:
Expected Return = Risk-Free Rate + Beta*(Market Risk Premium)

Using the given information:
Expected Return = 13%
Beta = 1.08
Risk-Free Rate = 5.5%

Market Risk Premium = Expected Return - Risk-Free Rate
Market Risk Premium = 13% - 5.5%
Market Risk Premium = 7.5%

Substitute the values in the security market line formula:
13% = 5.5% + 1.08*(7.5%)

Simplifying:
13% = 5.5% + 8.1%
13% - 5.5% = 8.1%*1.08
7.5% = 8.748%
Slope of SML = Market Risk Premium/Beta
Slope of SML = 7.5%/1.08 = 6.94%

Therefore, the slope of the security market line is 6.94%, which is option D.

The Expected Return of a Stock Is 13 Percent, and Its