Course: Corporate Finance
Discuss the relationship between risk and return and explain it in the context of the company's cost of capital(which is provided in example 1)
The CFO gives you the following information to help compose the graph:
â?¢The company's beta is 1.2.
â?¢The risk-free rate is 3%.
â?¢The required market return is 8%.
Calculate the SML and discuss the pros and cons of using this measure.
The cost of capital is highlighted in example1
Example 2 is a sample of what is expected.
Please find attached. Kindly let me know if you need any clarification or have any questions. I will be glad to be of additional assistance.
Relationship between risk and return
The relationship between risk and return is essential in identifying investment rate of return. Knowledge on the relationship between risk and return and its direction is essential in order to effectively manage an investment. There is direct correlation between risk and return and there are two types of relationships between risk and return which include positive or direct relationship and negative or indirect relationship (Relationship Between, 2011). Direct relationship can be grouped into high risk - high return whereby an investor receives higher returns for taking high risks or low risk - low return whereby an investor receives low return. Negative relationship exists in investors who are risk seekers whereby low performance leads to high risk - low return and superior performance leads to low risk - high return (Mukherji et al, 2008). Curvilinear relationship exists when investors are both risk averse and risk seekers thus the investor participates in investments that have relative loss or gain.
Cost of ...
The expert discusses the pros and cons of using the measure.