Calculating Expected Return using CAPM

Understanding CAPM and Expected Return

The Capital Asset Pricing Model (CAPM) calculates the expected return of a stock based on its beta, the expected return of the market portfolio, and the risk-free rate.

Calculating Expected Return with CAPM

The formula for the expected return using CAPM is:

Expected Return = Risk-free rate + Beta × (Expected market return - Risk-free rate)

Given:

Risk-free rate = 1.6%

Expected market return = 9.6%

Beta = 0.5

Plugging in the values:

Expected Return = 1.6% + 0.5 × (9.6% - 1.6%)

Calculating:

Expected Return = 1.6% + 0.5 × 8%

Expected Return = 1.6% + 4%

Expected Return = 5.6%

Therefore, the expected return predicted by the CAPM for a stock with a beta of 0.5 is 5.6%.