Using the Capital Asset Pricing Model, what is the most likely cost of equity capital for a company with a Beta of 1.9 and a risk-free rate of 2.0%?

Using the Capital Asset Pricing Model, what is the most likely cost of equity capital for a company with a Beta of 1.9 and a risk-free rate of 2.0%?

• A. 10.4%
• B. 11.4%
• C. 12.4%
• D. 13.4%

Answer: (D)

To determine the cost of equity capital using the Capital Asset Pricing Model (CAPM), the formula is given by: Cost of Equity = Risk-Free Rate + Beta × (Market Return - Risk-Free Rate) In this scenario, the Beta is 1.9 and the risk-free rate is 2.0%. The market return isn't explicitly provided, but we can infer it from the options given for the cost of equity. When calculating cost of equity, it’s essential to know the expected market return. The general assumption for the market return is often around 8-10%, but a typical estimate is approximately 8% for a widely used figure. Using this assumption allows us to find the implied market return needed to match one of the provided options. We can rearrange the CAPM formula to derive the market return: Cost of Equity - Risk-Free Rate = Beta × (Market Return - Risk-Free Rate) 1. If we take 13.4% as a potential cost of equity: 13.4% - 2.0% = 1.9 × (Market Return - 2.0%) 11.4% = 1.9 × (Market Return - 2.0%) 2.

To determine the cost of equity capital using the Capital Asset Pricing Model (CAPM), the formula is given by:

Cost of Equity = Risk-Free Rate + Beta × (Market Return - Risk-Free Rate)

In this scenario, the Beta is 1.9 and the risk-free rate is 2.0%. The market return isn't explicitly provided, but we can infer it from the options given for the cost of equity.

When calculating cost of equity, it’s essential to know the expected market return. The general assumption for the market return is often around 8-10%, but a typical estimate is approximately 8% for a widely used figure. Using this assumption allows us to find the implied market return needed to match one of the provided options.

We can rearrange the CAPM formula to derive the market return:

Cost of Equity - Risk-Free Rate = Beta × (Market Return - Risk-Free Rate)

1. If we take 13.4% as a potential cost of equity:

13.4% - 2.0% = 1.9 × (Market Return - 2.0%)

11.4% = 1.9 × (Market Return - 2.0%)