The common stock of PDS has a beta of .98 and an expected return of 12.34%. The
ID: 2679679 • Letter: T
Question
The common stock of PDS has a beta of .98 and an expected return of 12.34%. The risk free rate of return is 4.1 percent and the market rate of return is 11.65%. Which one of the following statements is true given this information?a. the return on PDS stock will graph below the security market line
b. PDS stock is underpriced
c. the expected return on PDS stock based on the Capital Asset Pricing Model is 15.52 percent.
d. PDS stock has more systematic risk than the overall market
e. PDS stock is correctly priced.
please explain ?
Explanation / Answer
According to the CAPM Model; the expected return on stock is
= 4.1% + 0.98(11.65%- 4.1%)
= 4.1% + 0.98(7.55%)
=4.1% + 7.399%
= 11.499%
Therefore, Option (C) is wrong. why because according to the CAPM model the expected return on stock is 11.499% not 15.52%.
If the beta of the stock is greater than 1, then the stock has more systematic risk. Here, the stock's beta is less than one i.e. 0.98. Therefore, it has not more systematic risk than the overall market. Hence, Option (d) is wrong.
The correct answer is Option (b) PDS stock is underpriced.
Whe becuase if the expected return on stock is increase, then the stock price was fall down and vice versa.
Therefore, Option (b) is true.
Related Questions
drjack9650@gmail.com
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.