STANDARD STOCKS
STANDARD STOCKS
How to calculate Beta and required Returns for stocks?
Given
Expected return for the market 14%
Standard deviation of market return 20%
Risk free rate 7%
Coorelation coefficient between
Stock A and the market 0.7
Stock B and the market 0.4
Standard deviation for stock A 25%
Standard deviation for stock B 30%
a) Calculate the beta for stock A and B
b) Calculate the required return for each stock
Thank you for taking the time to looking at my question, I really appreciate it.
Beta = (Covariance of STOCK RETURN and Market return)/Variance of Market return.
Covariance = Correlation x Standard deviation of Stock x Standard deviation of Market.
Required return of stock = Risk free rate + Beta(Return premium).
Cov of Stock A = 0.7 x 0.25 x 0.2 = 0.035
Beta of Stock A = 0.035 / 0.2^2 = 0.875
Required return of Stock A = 7 + 0.875(7) = 13.125%
Cov of Stock B = 0.4 x 0.3 x 0.2 = 0.024
Beta of Stock A = 0.024 / 0.2^2 = 0.6
Required return of Stock A = 7 + 0.6(7) = 11.2%
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