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):

r_RF = 3%; r_M = 8%; RP_M = 5%, and beta = 1.3

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

%

If inflation increases by 1% but there is no change in investors' risk aversion, what is WCE's required rate of return now? Do not round intermediate calculations. Round your answer to two decimal places.

%

Assume now that there is no change in inflation, but risk aversion increases by 1%. What is WCE's required rate of return now? Do not round intermediate calculations. Round your answer to two decimal places.

%

If inflation increases by 1% and risk aversion increases by 1%, what is WCE's required rate of return now? Do not round intermediate calculations. Round your answer to two decimal places.

%