Stock Valuation
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Stock A has a beta of 1.1 and an expected return of 12%. Stock B has a beta of .92 and an expected return of 10.25%. The risk-free rate is 3.5% and the expected return on the market is 11%.Are these stocks correctly priced? Why or why not?
1. No; Stock A is underpriced and stock B is overpriced.
2. No; Stock A is overpriced and stock B is underpriced.
3. No; Stock A is overpriced but stock B is correctly priced.
4. No; Stock A is underpriced but stock B is correctly priced.
5. Yes; Both stocks are correctly priced.
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Solution Summary
The solution explains how to calculate the value of a stock and check if it is correctly priced.
Solution Preview
We calculate the returns using the CAPM and then compare with the expected return
Using CAPM
Required return = Rf + (Rm-Rf) X beta
Stock ...
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