8. REQUIRED RATE OF RETURN Suppose rRF = 8%, rM = 13%, and bi = 1.8. 2. Now supp

Question

8.

REQUIRED RATE OF RETURN

Suppose rRF = 8%, rM = 13%, and bi = 1.8.

2. Now suppose rRF decreases to 7%. The slope of the SML remains constant. How would this affect rM and ri?

What is ri, the required rate of return on Stock i? Round your answer to two decimal places.
%

1. Now suppose rRF increases to 9%. The slope of the SML remains constant. How would this affect rM and ri?

Both rM and ri will remain the same.

Both rM and ri will increase by 1%.

rM will remain the same and ri will increase by 1%.

rM will increase by 1% and ri will remain the same.

Both rM and ri will decrease by 1%.

-Select-IIIIIIIVVItem 2

Both rM and ri will decrease by 1%.

rM will decrease by 1% and ri will remain the same.

rM will remain the same and ri will decrease by 1%.

Both rM and ri will increase by 1%.

Both rM and ri will remain the same.

-Select-IIIIIIIVVItem 3

1. Now assume that rRF remains at 8%, but rM increases to 14%. The slope of the SML does not remain constant. How would these changes affect ri? Round your answer to two decimal places.

The new ri will be  %.

2. Now assume that rRF remains at 8%, but rM falls to 12%. The slope of the SML does not remain constant. How would these changes affect ri? Round your answer to two decimal places.

The new ri will be  %.

Explanation / Answer

1

Option B

slope of SML=Rm-Rf

initial slope=13-8=5%

required retunr=risk free+ beta*market risk premium

Ri=8+1.8*5=17%

Rf increases to 7% and then also slope remains constant

Rm-9=5=>Rm=14%

Ri=9+1.8*5=18%

So, Ri increases from 17% to 18% and Rm increases from 13% to 14%

2 Option A

slope of SML=Rm-Rf

initial slope=13-8=5%

required retunr=risk free+ beta*market risk premium

Ri=8+1.8*5=17%

Rf decreases to 7% and then also slope remains constant

so, Rm-7=5=>Rm=12%

Hence, Ri=7+1.8*5=16%

So, Ri decreases from 17% to 16% and Rm decreases from 13% to 12%

3

Rf=8%

Rm=14%

So, Rm-Rf=6%

Ri=8+1.8*6=18.8%

4

Rf=8%

Rm=12%

So, Rm-Rf=4%

Ri=8+1.8*4=15.2%

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