ST8–2 Beta and CAPM Currently under consideration is an investment with a beta,

b, of 1.50. At this time, the risk-free rate of return, RF, is 7%, and the return on the market portfolio of assets, rm, is 10%. You believe that this investment will earn an annual rate of return of 11%.

a. If the return on the market portfolio were to increase by 10%, what would you expect to happen to the investment’s return? What if the market return were to decline by 10%?

b. Use the capital asset pricing model (CAPM) to find the required return on this investment.

c. On the basis of your calculation in part

b, would you recommend this investment?
Why or why not?

d. Assume that as a result of investors becoming less risk averse, the market return drops by 1% to 9%. What effect would this change have on your responses in parts b and c?