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orter Plumbing's stock had a required return of 11.00% last year, when the risk-free rate was 5.50% and the market risk premium was 4.75%. Then an increase in investor risk aversion caused the market risk premium to rise by 2%. The risk-free rate and the firm's beta remain unchanged. What is the company's new required rate of return? (Hint: First calculate the beta, then find the required return.) Select the correct answer.

Respuesta :

Shahzaibfaraz

Answer:

The new required rate of return is 13.32%

Explanation:

The required rate of return is the minimum return that investors require for investing in a stock based on its risk. The required rate of return can be calculated using the CAPM model.

The formula for required rate of return (r) is:

r = rRF +Beta * rpM

Where,

  • rRF is the risk free rate
  • Beta is the stock's beta or measure of risk
  • rpM is the market risk premium

The beta of the stock is:

11 = 5.5 + beta * 4.75

11 - 5.5 = beta * 4.75

5.5 / 4.75 = beta

beta = 1.15789

The new required rate of return will be:

r = 5.5 + 1.15789 * (4.75 + 2)

r = 13.315% rounded off to 13.32%

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