Stock Y has a beta of 105 and an expected return of 13 Stock

Stock Y has a beta of 1.05 and an expected return of 13%. Stock Z has a beta of .70 and a expected return of 9 percent. If the risk-free rate is 5% and market risk premium is 7%, are those stocks correctly priced? In the previous problem, what would the risk-free rate have to be for the two stocks to be correctly priced relative to each other?

Can you please show me the calculation in the Excel format!

Solution

expected return = risk free + beta * market risk premium

required return for Y = 5% + 1.05*7% = 12.35%, so it is underpriced since expected is more

required return for Z = 5% + 0.70*7% = 9.9%, so it is overpriced

13% = risk free rate + 1.05*makret risk premium.......i)

9% = risk free rate + 0.7*market risk premium........ii)

i) - ii) = 4% = 0.35* market risk premium

market risk premium = 11.4286%

put in i)

risk free rate = 13% - 1.05*11.4286% = 1%