TCDN 2 C1 2

What is the formula for the expected return on stock under the CAPM?

• RS = RF + β × (RM − RF)
• RS = RF + α × (RM − RF)
• RS = RF + γ × (RM − RF)
• RS = RF + β × (RM + RF)

In the CAPM formula, what does RF represent?

• Risk-free rate
• Market rate
• Stock rate
• Stock beta

What does the term β represent in the CAPM formula?

• The market risk premium
• The number of units of market risk associated with the stock
• The risk-free rate
• The expected return on the stock

Which of the following is required to estimate a firm's cost of equity capital using the CAPM?

• Risk-free rate, market risk premium, and stock beta
• Stock market value, stock price, and risk-free rate
• Risk-free rate, stock price, and stock dividend
• Market value of the firm, stock beta, and market risk premium

According to the CAPM, the additional compensation for risk is equal to:

• The amount of market risk multiplied by the stock's price
• The amount of stock risk multiplied by the price of risk
• The expected return of the market
• The stock price multiplied by the risk-free rate

Which of the following best describes the market risk premium in the CAPM formula?

• The difference between the expected return on the stock and the risk-free rate
• The difference between the expected return on the market portfolio and the risk-free rate
• The stock's volatility
• The expected return of the stock compared to its beta

What is the main challenge when estimating the cost of equity capital, as discussed in the text?

• Stockholders do not directly tell the firm their required returns
• The risk-free rate is too volatile
• The beta is difficult to calculate
• The market risk premium is too low

What is the risk-free rate, RF, in the CAPM equation?

• The return on any bond
• The current prevailing yield on a risk-free security with the same maturity as the cash flows of the investment
• The expected return on the stock
• The market risk premium

Which of the following is true about the risk-free rate RF?

• It is always equal to the market rate
• U.S. Treasury bonds are considered risk-free instruments, but some foreign government bonds may not be
• The risk-free rate is typically calculated using the average yield of the stock market
• It must be calculated using the stock's beta

When estimating the risk-free rate, which of the following is most important?

• Using the historical risk-free rate
• Matching the maturity of the risk-free bond to the maturity of the project's cash flows
• Using the market risk premium in the calculation
• Comparing bond yields of different countries