Chapter 5 Risk and Return 5 1 Van

Defining Risk The variability of returns from those that are expected. 5. 2 Van

Required Rate of Return Rj = Rf + bj(RM – Rf) Rj is the

Determination of the Required Rate of Return Lisa Miller at Basket Wonders is attempting

BWs Required Rate of Return RBW = Rf + bj(RM – Rf) RBW =

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Chapter 5 Risk and Return 5. 1 Van Horne and Wachowicz, Fundamentals of Financial Management, 13 th edition. © Pearson Education Limited 2009. Created by Gregory Kuhlemeyer.

Defining Risk The variability of returns from those that are expected. 5. 2 Van Horne and Wachowicz, Fundamentals of Financial Management, 13 th edition. © Pearson Education Limited 2009. Created by Gregory Kuhlemeyer.

Required Rate of Return Rj = Rf + bj(RM – Rf) Rj is the required rate of return for stock j, Rf is the risk-free rate of return, bj is the beta of stock j (measures systematic risk of stock j), 5. 3 Van Horne and Wachowicz, Fundamentals of Financial Management, 13 th edition. © Pearson Education Limited 2009. Created by Gregory Kuhlemeyer.

Determination of the Required Rate of Return Lisa Miller at Basket Wonders is attempting to determine the rate of return required by their stock investors. Lisa is using a 6% Rf and a long-term market expected rate of return of 10% A stock analyst following the firm has calculated that the firm beta is 1. 2 What is the required rate of return on the stock of Basket Wonders? 5. 4 Van Horne and Wachowicz, Fundamentals of Financial Management, 13 th edition. © Pearson Education Limited 2009. Created by Gregory Kuhlemeyer.

BWs Required Rate of Return RBW = Rf + bj(RM – Rf) RBW = 6% + 1. 2( 1. 2 10% – 6%) 6% RBW = 10. 8% The required rate of return exceeds the market rate of return as BW’s beta exceeds the market beta (1. 0). 5. 5 Van Horne and Wachowicz, Fundamentals of Financial Management, 13 th edition. © Pearson Education Limited 2009. Created by Gregory Kuhlemeyer.