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An analyst has modeled the stock of Crisp Trucking using a two-factor APT model. The risk-free...

Question:

An analyst has modeled the stock of Crisp Trucking using a two-factor APT model. The risk-free rate is 7%, the expected return on the first factor (r{eq}_{1} {/eq}) is 11%, and the expected return on the second factor (r{eq}_{2} {/eq}) is 8%.

If bi{eq}_{1} {/eq} = 0.6 and bi{eq}_{2} {/eq} = 0.8, what is Crisp's required return? Round answer to two decimal places.

Arbitrage Pricing Theory:

The arbitrage pricing theory (APT) model refers to a model used to compute the required rate of return of a security. This model provides the required rate using a return from different factors of the economy like GDP, market return, and many more. It indicates the sensitivity of the asset's return to the changes in the macroeconomic variables.

Answer and Explanation:

Computation of required return using a two-factor APT model:

{eq}\begin{align*}\text{Required Return}\left ( R_j \right )&=R_f+\beta_1\left ( E_{r1}-R_f \right )+\beta_2\left ( E_{r2}-R_f \right )\\&=7\%+0.6\left ( 11\%-7\% \right )+0.8\left ( 8\%-7\% \right )\\&=10.2\%\end{align*} {/eq}


Learn more about this topic:

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Required Rate of Return (RRR): Formula & Calculation

from Financial Accounting: Help and Review

Chapter 1 / Lesson 29
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