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10 April, 05:06

A stock has an expected return of 13 percent, its beta is 1.80, and the expected return on the market is 9.5 percent. What must the risk-free rate be? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e. g., 32.16.)

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  1. 10 April, 05:13
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    The answer is 5.13percent

    Explanation:

    The formula to be used here is from Capital Asset Pricing Model (CAPM) and it is used to determine the cost of equity or the expected return on a company's equity.

    The formula is

    Ke = Rf + beta (Rm - Rf)

    Where Ke is Cost of equity (13 percent)

    Rf is the risk free rate of return

    Rm is the market risk (9.5 percent)

    beta = 1.80

    To solve for Rf;

    0.13 = Rf + 1.8 (0.095 - Rf)

    0.13 = Rf + 0.171 - 1.8Rf

    0.13 - 0.171 = Rf - 1.8Rf

    -0.041 = - 0.8Rf

    Rf = 0.041 : 0.8

    =0.0513

    5.13percent
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