Stock’s expected rate
Differentiate among a stock’s expected rate of return (rˆ), required
rate of return (r), and realized, after-the-fact, historical return (r-).
Which would have to be larger to induce you to buy the stock, rˆ or r?
At a given point in time, would rˆ, r, and r– typically be the same or
different? Explain.
What are the differences between the relative volatility graph
(Figure 8-9), where “betas are made,” and the SML graph (Figure
8-10), where “betas are used”? Explain how both graphs are con-
structed and the information they convey.
What would happen to the SML graph in Figure 8-10 if inflation
increased or decreased?
What happens to the SML graph when risk aversion increases or
decreases?
What would the SML look like if investors were indifferent to risk,
that is, if they had zero risk aversion?
How can a firm influence the size of its beta?
A stock has a beta of 1.2. Assume that the risk-free rate is 4.5 percent
and the market risk premium is 5 percent. What is the stock’s
required rate of return? (10.5%)
