Problem 13-18 Reward-to-Risk Ratios [LO4] Stock Y has a beta of 1.8 and an expec

Question

Problem 13-18 Reward-to-Risk Ratios [LO4] Stock Y has a beta of 1.8 and an expected return of 18.2 percent. Stock Zhas a beta of .8 and an expected return of 9.6 percent. If the risk-free rate is 5.2 percent and the market risk premium is 6.7 percent, the percent, respectively. Since reward-to-risk ratios for stocks Y and Z are and the SML reward-to-risk is percent, Stock Y is undervalued and Stock Z is O. (Do not round intermediate calculations. Enter your answers as a percent overvalued rounded to 2 decimal places, e.g., 32.16

Explanation / Answer

Reward to risk ratio For stock Y:

= (18.2%-5.2%)÷1.8

= 7.22

Reward to risk ratio For stock Z:

= (9.6%-5.2%)÷0.8

= 5.5

SML reward to risk is 6.7%

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