Here are data on two companies. The T-bill rate is 5.8% and the market risk premium is 7.4%.

Company $1 Discount Store Everything $5
Forecast return 14 % 13 %
Standard deviation of returns 17 % 19 %
Beta 1.7 1.0

What would be the fair return for each company, according to the capital asset pricing model (CAPM)? (Round your answers to 2 decimal places.)

18.38% and 13.2%

Explanation:

As we know that

Expected rate of return = Risk-free rate of return + Beta × (Market rate of return - Risk-free rate of return)

So for Discount store, it is

= 5.8% + 1.7 × 7.4%

= 5.8% + 12.58%

= 18.38%

And for everything store, it is

= 5.8% + 1.0 × 7.4%

= 5.8% + 7.4%

= 13.2%

The Market rate of return - Risk-free rate of return) is also known as the market risk premium and the same is applied.          

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