Study Question of the Week: November 27, 2013 Edition

This week’s study question from the Solomon Online Exam Simulator question database is now available. Relevant to the Series 65, Series 66, and Series 79. –ANSWER POSTED– Continue reading

This week’s study question from the Solomon Online Exam Simulator question database is now available.

Study ? of the Week

Question (Relevant to the Series 65, Series 66, and Series 79)

Given the following assumptions for stock ABC, what is its expected return using the Capital Asset Pricing Model (CAPM)? Risk Free Rate: 2%, Expected Return on general stock market: 10%, Beta: .5, Sharpe Ratio: 3.

Answers:

A. 4%

B. 6%

C. 12%

D. 2%

Correct Answer: B. 6%

Rationale: The formula for the Capital Asset Pricing Model (CAPM) is given by the following:  Return on Stock = Risk Free Rate + Beta of Stock x (Return on Market – Risk Free Rate).  Plugging in for Stock ABC gives Return on Stock ABC = 2% + .5 x (10% – 2%) = 6%.  Note the Sharpe Ratio is not used in the CAPM formula.

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