Determine required rate of return
The required rate of return is the minimum rate of earnings you are willing to take from a given investment. It is more of a threshold you set for yourself so that any investment which promises anything less than that will simply not warrant your attention. Using the CAPM method, find out your rate of return. As an example, assume we are considering investing in 100 shares of IBM stock. Your bank’s rate for a one-year CD is 0.54 percent. Say the S&P for the past year was 5.46 percent. If IBM’s beta is 0.73, the required rate of return is: RRR = 0.54 + 0.73 (5.46 - 0.54) = 4.1 percent. The required rate of return, defined as the minimum return the investor will accept for a particular investment, is a pivotal concept to evaluating any investment. It is supposed to compensate the investor for the riskiness of the investment.