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Investment Analysis and Recommendation for British Petroleum

Please find an estimate of beta for British Petroleum (BP). Please consider examining or using an industry average beta, especially if the reported beta you find seems unrealistic or inappropriate.

Note: You should probably check the beta across a few different sources, because sometimes they vary. Please find the current interest rate (yield) for 3-month treasury bills. Determine an appropriate market risk premium. Please also consider the size of BP when estimating an appropriate premium.

Questions:

After making the calculations:

1. Using all this information, what is the expected return for BP using CAPM?

2. Last week I estimated a required rate of return of 10% for BP using the dividend discount model. How does the CAPM number compare?

Please write up a 1-page summary of your findings, including any calculations you might have made.

Solution Preview

CAPM Formula: E(R) = RFR + ╬▓stock (Rmarket - RFR)

E(R) = Required Rate of Return
RFR = Risk Free Rate (3 month Treasury bill in this case)
╬▓stock = Stock Beta
Rmarket = Market Return
(Rmarket - RFR) = Market Risk Premium

Let us first calculate the risk free rate of return based on current yield of 3-month treasury bills. The current yield is .03 for 3 month treasury bill.

Secondly, we will calculate market return denoted by return of S&P 500. S&P gained by 13% in 2012. Hence, we will take 13% as our market return.

To calculate stock beta, ...

Solution Summary

The following posting calculates expected return for BP using CAPM.

$2.19