2A few years ago, the Value Line Investment survey reported the following market

Question

2A few years ago, the Value Line Investment survey reported the following market betas for the stocks of selected healthcare providers:
Company - Beta
Quorum Health Group 0.90
Beverly Enterprises 1.20
HealthSouthCorporation 1.45
United Healthcare 1.70
at the time thesebetas were developed, reasonable estimates for the risk-free rate,RF,and required rate of return on the market, R (Rm),were 6.5% and 13.5 % respectively.
(a) what are the required rates of return on the four stocks?
(b) why do their required rates of retuen differ?
(c) Suppose that a person is planning to invest in only one stock rather than a well-diversified stock portfolio.Are the required rates of return calculated above applicable to the investment?Explain your answer

Explanation / Answer

(a). Calculation of required rate of return on the four stocks:    RF is 6.5%, RM is 13.5%.    Required rate of return   = RF + (RM - RF) * beta.                 For Quorum Health Group beta is 0.90. then    Required rate of return   = 6.5% + (13.5% - 6.5%) * 0.90.                                        =6.5% + (7%) *0.90                                        =6.5% + 6.3%                                        =12.8%                For Bevely Enterpreses beta is 1.20.     Required rate of return   =6.5% +(13.5%-6.5%)*1.20                                         =6.5% + 7%*1.20                                        =6.5% + 8.4%                                        =14.9%.                For Healthsouth Corpotation beta is 1.45.      Required rate of return =6.5% +(13.5%-6.5%)*1.45                                        =6.5% +(7%)*1.45                                        =6.5% + 10.15%                                        =16.65%                For United health care beta is 1.70    Required rate of return    =6.5% +(13.5%-6.5%)*1.70                                         =6.5% + 7%*1.7                                        =6.5% + 11.9%                                        =17.4%. (b).       Four firms have different beta values. Therefore the required rates are differ. (c).       Yes applicable. which stock have more required rate of return that will be apllicable for the investment.        RF is 6.5%, RM is 13.5%.    Required rate of return   = RF + (RM - RF) * beta.                 For Quorum Health Group beta is 0.90. then    Required rate of return   = 6.5% + (13.5% - 6.5%) * 0.90.                                        =6.5% + (7%) *0.90                                        =6.5% + 6.3%                                        =12.8%                For Bevely Enterpreses beta is 1.20.     Required rate of return   =6.5% +(13.5%-6.5%)*1.20                                         =6.5% + 7%*1.20                                        =6.5% + 8.4%                                        =14.9%.                For Healthsouth Corpotation beta is 1.45.      Required rate of return =6.5% +(13.5%-6.5%)*1.45                                        =6.5% +(7%)*1.45                                        =6.5% + 10.15%                                        =16.65%                For United health care beta is 1.70    Required rate of return    =6.5% +(13.5%-6.5%)*1.70                                         =6.5% + 7%*1.7                                        =6.5% + 11.9%                                        =17.4%. (b).       Four firms have different beta values. Therefore the required rates are differ. (c).       Yes applicable. which stock have more required rate of return that will be apllicable for the investment.    

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