Suppose that Ford's stock volatility (i. e. standard deviation) is 40% while the market volatility is 20%. If the correlation between Ford and the market is 0.8, what is the expected return on Ford's stock? Assume that the expected return on the market is 12% and the risk-free rate is 4%.

16.8%

Explanation:

The computation of expected return on Ford's stock is given below:-

Beta = correlation * Standard deviation of stock : Standard deviation of Market

= 0.8 * 40% : 20%

= 1.60

Expected rate of return = Risk-free rate of return + Beta * (Market rate of return - Risk-free rate of return)

= 4% + 1.60 * (12% - 4%)

= 4% + 1.60 * (0.12 - 0.04)

= 4% + 1.60 * 0.08

= 4% + 0.128

= 0.04 + 0.128

= 0.168

= 16.8%