Answer:
d. 12.72%
Explanation:
To calculate the expected return on the market, we will use the Capital asset pricing model (CAPM) equation.
The CAPM allows to relate the risk-free rate of return (RFROR), the market risk premium, the beta of an asset and the expected return of this asset.
Expected return = risk-free ROR + (Beta*Market risk premium)
In this case we know all the parameters but the Market risk premium (MRP), so we have:
[tex]ER=RFROR+\beta*MRP\\\\\\16.26=3.42+1.38*MRP\\\\MRP=(16.26-3.42)/1.38=9.30[/tex]
We also know that the beta of the market, by definition, is equal to one. So now that we know the market risl premium we can calculate the expected return on the market:
[tex]ER=RFROR+\beta*MRP\\\\ER=3.42+1*9.30=3.42+9.30=12.72[/tex]
The expected return on the market is 12.72%.
