Company A has a beta of 0.70, while Company B\'s beta is 0.85. The required retu

Question

Company A has a beta of 0.70, while Company B's beta is 0.85. The required return on the stock market is 11.00%, and the risk-free rate is 2.25%. What is the difference between A's and B's required rates of return?

Explanation / Answer

When you do this, you need to use the CAPM. CAPM=Rf+bi (rm-Rf) Rf- risk free rate, bi - beta, Rm - risk market So, setting the values into the formula for A and B respectively. For A: CAPM = 2.25% + 0.7(11%-2.25%) = 0.08375 ----> This must converted to percentage: 0.08375 x 100 = 8.375% or 8.85% For B: CAPM = 2.25% + 0.85(11%-2.25%) = 0.096875 ----> This must converted to percentage: 0.096875 x 100 = 9.6875% or 9.69% For the difference, just subtract the two (B-A for a positive answer, but this doesnt really matter); 9.69% - 8.85% = 0.0084 or 0.84% Hope this answers your question, Good Luck!

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