A stock has a beta of 1.5. The market's expected total return is 10% pa and...

A stock has a beta of 1.5. The market's expected total return is 10% pa and the risk free rate is 5% pa, both given as effective annual rates. In the last 5 minutes, bad economic news was released showing a higher chance of recession. Over this time the share market fell by 1%. The risk free rate was unchanged. What do you think was the stock's historical return over the last 5 minutes, given as an effective 5 minute rate? (a) -12.5% (b) -4% (c) -1.5% (d) -1% (e) 12.5%

Expert Solution

The risk free rate is close to zero as it has 5% return in full year. So, in five minutes, it will have zero return

So, Rf = zero

Applying CAPM model:

Ke = Rf + Beta (Rm -Rf)

Ke = 0 + 1.5 ( - 1% -0%)

Ke = 0 + 1.5 (-0.01)

Ke = - 0.015

Ke = - 1.5

So, correct option is c.

jeff jeffy answered 2 years ago

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