Risk free rate of return is 5% & required rate of return on the market is...

Risk free rate of return is 5% & required rate of return on the market is 9%. What is the security market line? If corporate beta is 1.8 what does that mean?

Expert Solution

Security market line is the relationship between Required return on security and beta and it is given by :-

Required return = Risk free rate + (Market return - Risk free rate )*Beta

Hence , Required return= 5+(9-5)*Beta

Required return= 5 + 4 *Beta

This is security market line.

Now when corporate beta is 1.8 ,it means when market changes by 1% then security changes by 1.8 % and when beta is 1.8 then Required return on security =5+4*1.8=12.2%

jeff jeffy answered 2 years ago

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