The following graph plots the current security market line (SML) and indicates the return that investors require from holding stock from Happy Corp. (HC). Based on the graph, complete the table that follows:

1.

CAPM Elements	Value
Risk-free rate (rRFrRF)	_______
Market risk premium (RPMRPM)	_______
Happy Corp. stocks beta	_______
Required rate of return on Happy Corp. stock	_______

An analyst believes that inflation is going to increase by 3.0% over the next year, while the market risk premium will be unchanged. The analyst uses the Capital Asset Pricing Model (CAPM). The following graph plots the current SML.

Calculate Happy Corp.s new required return. Then, on the graph, use the green points (rectangle symbols) to plot the new SML suggested by this analysts prediction.

2. Happy Corp.s new required rate of return is _______.

3.

4. The SML helps determine the risk-aversion level among investors. The steeper the slope of the SML, the ______ the level of risk aversion.

5. Which of the following statements best describes a shift in the SML caused by increased risk aversion?

1. The risk-free rate will decrease.

2. The risk-free rate will remain constant.

3. The risk-free rate will increase.

20.0 16.0 12.0 REQUIRED RATE OF RETURN (Percent) Return on HC's Stock 8.0 4.0 0 0.5 1.5 2.0 1.0 RISK (Beta) 20 New SML 16 REQUIRED RATE OF RETURN (Percent) 00 O 0 0 0.4 1.6 2.0 0.8 1.2 RISK (Beta)