Nanometrics Inc Has A Beta Of 3.32 If The Market Returns Ex
Nanometrics Inc Has A Beta Of 332 If The Market Return Is Expecte
Nanometrics, Inc., has a beta of 3.32. If the market return is expected to be 14.05 percent and the risk-free rate is 5.30 percent, what is Nanometrics’ required return? (Round your answer to 2 decimal places.) Nanometrics’ required return %
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The calculation of a company's required rate of return is fundamental in finance, especially when evaluating investment opportunities and assessing the risk profile of a company's stock. The Capital Asset Pricing Model (CAPM) provides a systematic and theoretically grounded way to estimate this return, incorporating the risk-free rate, the stock’s beta, and the expected market return.
The CAPM formula is expressed as:
\[ R_e = R_f + \beta (R_m - R_f) \]
where:
- \( R_e \) is the required rate of return on equity,
- \( R_f \) is the risk-free rate,
- \( R_m \) is the expected market return,
- \( \beta \) (beta) measures the sensitivity of the stock's returns to the market's returns.
In this specific case:
- The beta (\( \beta \)) for Nanometrics Inc. is 3.32,
- The expected market return (\( R_m \)) is 14.05%,
- The risk-free rate (\( R_f \)) is 5.30%.
Applying these values into the CAPM formula:
\[ R_e = 5.30\% + 3.32 \times (14.05\% - 5.30\%) \]
First, calculate the market risk premium:
\[ 14.05\% - 5.30\% = 8.75\% \]
Then multiply the beta by the market risk premium:
\[ 3.32 \times 8.75\% = 29.05\% \]
Finally, add the risk-free rate:
\[ R_e = 5.30\% + 29.05\% = 34.35\% \]
Therefore, the required return for Nanometrics Inc., based on the CAPM, is 34.35% (rounded to two decimal places). This high required return reflects the company's high beta, indicating greater systematic risk compared to the market as a whole.
Investors and financial analysts use this calculation to determine whether the potential return justifies the inherent risk of investing in Nanometrics Inc. If the company's expected future return or dividend yield does not meet or exceed this required rate, the stock might be considered overvalued or too risky.
It’s important to note that while CAPM is widely used, it relies on several assumptions, such as markets being efficient and investors holding diversified portfolios. Real-world factors, such as market sentiment and company-specific risks, may cause actual returns to deviate from the model's estimates.
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