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Complete Guide To Corporate Finance
4.5.1 An Introduction To Risk And Return
4.3 Project Analysis And
4.5.2 Expected Return, Variance And Standard Deviation
Of A Portfolio
4.4 Capital Market History
4.5 Return, Risk And The
4.5.4 Expected And Unexpected Returns
Security Market Line
4.5.5 Systematic And Unsystematic Risk
Return, Risk And The Security Market Line Security Market Line And Beta Basics The security market line ("SML" or "characteristic line") graphs the systematic (or market) risk versus the return of the whole market at a certain time and shows all risky marketable securities. The SML essentially graphs the results from the capital asset pricing model (CAPM) formula. The x-axis represents the risk (beta), and the y-axis represents the expected return. The market risk premium is determined from the slope of the SML.
The security market line is a useful tool for determining whether an asset being considered for a portfolio offers a reasonable expected return for risk. Individual securities are plotted on the SML graph. If the security's risk versus expected return is plotted above the SML, it is undervalued because the investor can expect a greater return for the inherent risk. A security plotted below the SML is overvalued because the investor would be accepting less return for the amount of risk assumed.
Expected values for the SML are calculated with the
Es = rf + Bs(Emkt - rf)
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Where: rf = the risk-free rate
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Bs = the beta of the investment
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Emkg = the expected return of the market
Es = the expected return of the investment
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The beta is thus the sensitivity of the investment to the market or current http://www.investopedia.com/walkthrough/corporate-finance/4/return-risk/security-market-line.aspx
Security Market Line And Beta Basics - Complete Guide To Corporate Finance | Investopedia
portfolio. It is the measure of the riskiness of a project. When taken in isolation, a project may be considered more or less risky than the current risk profile of a company. By using the SML as a means to calculate a company's WACC, this risk profile would be accounted for.
How to Use the Gearing Ratio
By Amy Fontinelle
When a new product line for Newco is considered, the project's beta is 1.5. Assuming the risk-free rate is 4% and the expected return on the market is 12%, compute the cost of equity for the new product line.
Five Chart Patterns You
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Cost of equity = rf + Bs(Emkt - rf) = 4% + 1.5(12% - 4%) = 16%
How Does Goodwill Affect
The project's required return on retained earnings is therefore 16%, a number which should be used in our calculation of weighted average cost of capital (WACC
In risk analysis, estimating the beta of a project is quite important. But like many estimations, it can be difficult to determine....
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