- CFA Exams
- CFA Exam: Level II 2021
- Study Session 9. Equity Valuation (1)
- Reading 25. Return Concepts
- Subject 1. Return concepts

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**CFA Practice Question**

The market price of a stock is $20 now. The required rate of return is 10%. The intrinsic value, however, should be $22. If the price is going to converge to value in one year, then the expected rate of return for the period will be:

B. 15%.

C. 20%.

A. 10%.

B. 15%.

C. 20%.

Correct Answer: C

The stock is undervalued by $2, or 10%. The expected rate of return = required return 10% + 10% = 20%.

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**User Contributed Comments**
7

User |
Comment |
---|---|

VenkatB |
How is it 20% ? I think it should be (22-20)/20 = 10% |

JimM |
Took me a moment. The expected required return is what is given when the stock is purchased at a price equal to intrinsic value. If the price is below intrinsic value, then the return to get it up to that value is added to the required return to get expected return. |

bodduna |
ER = RoR + Exp.Alpha. price convergence to value. |

srki |
Good question |

rodney176 |
Good question, separating required return from alpha |

ashish100 |
Someone else take this mark meldrum to confirm and paste the results here but, Price convergence to value (10%) is not the alpha that's shown on the correct formula given by bodduna return = cap gains + divs Return = required + alpha So return here is 10 % |

khalifa92 |
E(R)= r + (V0-P0/P0) they just gave us the components names |