Chapter 8, Problem 8Q

Fundamentals of Financial Manageme...

15th Edition
Eugene F. Brigham + 1 other
ISBN: 9781337395250

Chapter
Section

Fundamentals of Financial Manageme...

15th Edition
Eugene F. Brigham + 1 other
ISBN: 9781337395250
Textbook Problem

If a company’s beta were to double, would its required return also double?

Summary Introduction

To explain: The effect on required return if the beta is doubled.

Introduction:

Portfolio Beta:

The portfolio beta is a measure of the volatility of the portfolio. It measures how the stock moves in the market. A high portfolio beta shows that securities are more volatile in the price movements while a low beta represents that securities are less volatile in the price movements.

Explanation

To know the effect on required return, it is better explained by the calculation of required return.

Assuming,

The beta of the stock is 1,

The risk-free rate is 5%, and

The expected return on the market is 11%.

Calculation of the required return,

RequiredāReturn=RiskāFreeāRate+Betaā(MarketāReturnāRiskāFreeāRate)=[0.05+1(0.11ā0.05)]=0.11āorā11%

The required return is 11%

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