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Chapter 17: Q7. (page 370)

Suppose that the equation for the SLM is Y = 0.05 + 0.04X, where Y is the average expected rate of return, 0.05 is the vertical intercept, 0.04 is the slope, and X is the risk level as measured by beta. What is the risk-free interest rate for this SML? What is the average expected rate of return at a beta of 1.5? What is the value of beta at an average expected rate of return is 7 percent?

Short Answer

Expert verified

The risk-free interest rate will be 5%.

The average expected rate of return will be 11%.

The value of beta will be 0.5.

Step by step solution

01

Step 1. Explanation

The risk-free rate will be the intercept of SLM, i.e., 0.05. Thus, the risk-free rate will be 5% (=0.05*100).

The average expected rate of return is calculated below:

Y=0.05+0.04XX=1.5Y=0.05+0.04(1.5)Y=0.05+0.06Y=0.11ExpectedRateofReturn=Y×100=0.11×100=11%

The average expected rate of return will be 11%.

The value of beta is calculated below:

Y=0.05+0.04XY=7%0.07=0.05+0.04X0.04=0.07-0.05X=0.020.04X=0.5

The value of beta will be 0.5

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