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27 May, 00:58

Parr Paper's stock has a beta of 1.442, and its required return is 13.00%. Clover Dairy's stock has a beta of 0.80. If the risk-free rate is 4.00%, what is the required rate of return on Clover's stock?

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  1. 27 May, 02:42
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    Required rate of return on clover's stock is 8.99%

    Explanation:

    The required rate of return on Clover's stock can be computed using Miller and Modgliani capital asset pricing model formula given below:

    Ke=Rf+beta * (Rm-Rf)

    Ke is the required rate of return, the unknown

    Rf is the risk free rate of return of 4.00%

    beta for Clover is 0.80

    Rm is the not known as well but can computed using the Parr paper's details below:

    beta is 1.442

    required return IS 13%

    13.00%=4.00%+1.442 * (Rm-4.00%)

    13%-4%=1.442 * (Rm-4.00%)

    9%=1.442 * (Rm-4.00%)

    9%/1.442=Rm-4%

    6.24% = Rm-4%

    Rm=6.24%+4%

    Rm=10.24%

    Now the required return on Clover's stock can be computed

    Ke=4%+0.8 * (10.24%-4%)

    Ke=8.99%
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