Nystrand Corporation's stock has an expected return of 12.25%, a beta of 1.25, and is in equilibrium. If the risk-free rate is 5.00%, what is the market risk premium?

The market risk premium is 5.8%

Explanation:

Expected return = 12.25%

Stock beta = 1.25

Risk free rate = 5%

Expected return = risk free rate + stock Beta (market risk - risk free rate)

12.25% = 5% + 12.5% (rm - 5%)

0.1225 = 0.05 + 1.25 (rm - 0.05)

0.1225 - 0.05 = 1.25 (rm - 0.05)

0.0725 = 1.25 (rm - 0.05)

0.0725 / 1.25 = rm - 0.05

0.058 + 0.05 = rm

rm = 0.108

Market Risk = 10.8%

Market Risk Premium = 10.8% - 5% = 5.8%