A Manager Believes His Firm Will Earn a 7

A manager believes his firm will earn a 7.5 percent return next year. His firm has a beta of 2, the expected return on the market is 5 percent, and the risk-free rate is 2 percent. Compute the return the firm should earn given its level of risk and determine whether the manager is saying the firm is undervalued or overvalued.

A) 8 percent, undervalued
B) 8 percent, overvalued
C) 12 percent, undervalued
D) 12 percent, overvalued

Correct Answer:

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