The security market line $($SML$)$ is an equation that shows the relationship between risk as measured by beta and the required rates of return on individual securities$.$ The SML equation is given below:

$$

If a stock's expected return plots on or above the SML$,$ then the stock's return is

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to compensate the investor for risk. If a stock's expected return plots below the SML$,$ the stock's return is

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to compensate the investor for risk.

The SML line can change due to expected inflation and risk aversion. If inflation changes, then the SML plotted on a graph will shift up or down parallel to the old SML$.$ If risk aversion changes, then the SML plotted on a graph will rotate up or down becoming more or less steep if investors become more or less risk averse. A firm can influence market risk $($hence its beta coefficient$)$ through changes in the composition of its assets and through changes in the amount of debt it uses.

Quantitative Problem: You are given the following information for Wine and Cork Enterprises $($WCE$)$:

rRF $=5\%$; rM $=7\%$; RPM $=2\%,$ and beta $=1\mathrm{.}3$

What is WCE's required rate of return? Do not round intermediate calculations. Round your answer to two decimal places.

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If inflation increases by $2\%$ but there is no change in investors' market risk premium, what is WCE's required rate of return now? Do not round intermediate calculations. Round your answer to two decimal places.

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Assume now that there is no change in inflation, but market risk premium increases by $2\%.$ What is WCE's required rate of return now? Do not round intermediate calculations. Round your answer to two decimal places.

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If inflation increases by $2\%$ and market risk premium increases by $2\%,$ what is WCE's required rate of return now? Do not round intermediate calculations. Round your answer to two decimal places.

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