White Company stock has a beta of 2 and a required return of 23%,while Black Company stock has a beta of 1.0 and a required return of 14%.The standard deviation of returns for White Company is 10% more than the standard deviation for Black Company.The risk free rate of return according to the CAPM is
A) 4%.
B) 5%.
C) 6%.
D) Impossible to determine with the information given.

Question

Quizplus · Accepted Answer

According to the Capital Asset Pricing Model, the required return on a security is equal to the risk-free rate plus beta times the market risk premium. Therefore, we can set up the following two equations:

23% = Rf + 2(Market Risk Premium)
14% = Rf + 1(Market Risk Premium)

Solving for the market risk premium, we get:

Market Risk Premium = 4.5%

Now, we can use this market risk premium to solve for the risk-free rate for either company. Let's solve for White Company's risk-free rate:

23% = Rf + 2(4.5%)
Rf = 14%

Therefore, the risk-free rate according to the CAPM is 5% (14% - 2(4.5%)) for Black Company.

White Company Stock Has a Beta of 2 and a Required