Risk-Free Rate Calculation | CFA Level 1 Exam Answer

Calculate Risk-Free Rate for CFA Level 1 Exam

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Question

A stock has a beta of 0.44 and the market risk premium is 7.9%. Its dividend growth rate is 4.25% and its P/E ratio is 8.7. If the firm has a dividend payout ratio of

70%, the risk-free rate equals ________.

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Explanations

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A. B. C. D.

C

Po/E1 = dividend payout/(k - g) Therefore, 8.7 = 0.7/(k - 0.0425), giving expected return = k = 12.3%.

Now, the CAPM expected return on the stock is given by k = Rf + beta*(Rm - Rf). Therefore, 12.3% = Rf + 0.44*7.9%, giving risk-free rate = 8.82%.

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