Suppose you observe the following situation: a. Calculate the expected return on each stock. b. Assuming the

Question:

Suppose you observe the following situation:

RETURN IF STATE OCCURS STOCK B PROBABILITY OF STATE STATE OF ECONOMY STOCK A -.08 .12 .46 .20 .60 Bust -.07 .12 Normal B

a. Calculate the expected return on each stock.
b. Assuming the capital asset pricing model holds and Stock A€™s beta is greater than Stock B€™s beta by .43, what is the expected market risk premium?

Capital Asset Pricing Model
The Capital Asset Pricing Model (CAPM) describes the relationship between systematic risk and expected return for assets, particularly stocks. The CAPM is a model for pricing an individual security or portfolio. For individual securities, we make use of the security market line (SML) and its... Expected Return
The expected return is the profit or loss an investor anticipates on an investment that has known or anticipated rates of return (RoR). It is calculated by multiplying potential outcomes by the chances of them occurring and then totaling these...