Research has identified two systematic factors that affect U. S. stock returns. The factors are growth in industrial production and changes in long-term interest rates. Industrial production growth is expected to be 3%, and long-term interest rates are expected to increase by 1%. You are analyzing a stock that has a beta of 1.2 on the industrial production factor and. 5 on the interest rate factor. It currently has an expected return of 12%. However, if industrial production actually grows 5% and interest rates drop 2%, what is your best guess of the stock's return

The multiple choices are as follows:

A. 15.9%

B. 12.9%

C. 13.2%

D. 12.0%

The correct option is C, 12.9% return on the stock using the data provided by research carried out

Explanation:

The total stock's return is the expected return of 12% plus the return impact of the business sector itself (industrial production) as well as the impact of changes in long-term interest rates in the economy

The sector return impact=beta of the sector * change in sector growth

=1.2 * (5%-3%) = 2.4%

The long-term interest rate impact=beta of interest rate*change in interest rate=0.5 * (-2%-1%) = -1.5%

total return on the stock=12.0%+2.4%-1.5%=12.9%