eBook Problem 11-07

The security market line is estimated to be k=5% + (12.3% - 5%). You are considering two stocks. The beta of A is 1.0. The firm offers a dividend yield during the year of 3 percent and a growth rate of 5.3 percent. The beta of B is 1.2. The firm offers a dividend yield during the year of 4.4 percent and a growth rate of 4.8 percent.

What is the required return for each security? Round your answers to two decimal places.

Stock A: %

Stock B: %

Why are the required rates of return different?

The difference in the required rates of return is the result of -Select- being riskier.

Since A offers higher potential growth, should it be purchased?

Stock A -Select- be purchased.

Since B offers higher dividend yield, should it be purchased?

Stock B -Select- be purchased.

Which stock(s) should be purchased?

-Select- should be purchased.