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Calculation of Required Rate of Return on a Stock

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Assume that the risk-free rate is 6% and the expected return on the market is 13%. What is the required rate of return on a stock with a beta of .7?

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Solution Summary

The solution is a calculation of the required rate of return on a stock with given rates including risk free, market, and beta.

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Here are the terms and the formula for calculating the expected return:

Terms
Required Rate: Ke
Risk Free Rate: Rf
b: Beta Coefficient
Km: Expected Return

Formula
Ke=Rf + b(Km-Rf)

Solve as follows:
Trying to solve for Ke, Rf is given as 6%, b is given as 0.7, Km is given as 13%

Ke=Rf + b(Km-Rf)
Ke=6% + 0.7(13%-6%)
Ke=6% + 0.7(7%)
Ke=6% + 4.9%
Ke=10.9%

The required rate is 10.9%

Here's an explanation of why:

Basically, we are trying to figure your required rate of return on a stock with relatively low volatility ...

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