Answer (C) is correct . The capital asset pricing model derives the risk premium of a particular stock (that is, the excess of the rate of return on the stock over the risk-free rate) by ? multiplying the stock’s beta by the excess of the market rate of return over the risk-free rate. Mathematically, this is expressed as (R Stock – RRisk-free ) = β × (RMarket – R Risk-free ) For Guilderland Mining, this calculation looks like this: (R Stock – 5%) = 2.2 × (12% – 5%) (R Stock – 5%) = 2.2 × 7% (R Stock – 5%) = 15.4% R Stock = 20.4%
Answer (A) is incorrect because This percentage is the difference between the overall market rate of return and the risk-free rate.
Answer (B) is incorrect because This percentage results from improperly subtracting the risk-free rate from the intermediate answer rather than adding.
Answer (D) is incorrect because This percentage is based on using the market rate instead of the risk premium when multiplying times beta.
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Using the CAPM, the analyst’s estimate of next year’s risk premium for Guilderland’s stock is closest to