You are considering two stocks: “A” and “B”. Based on your analysis, you believe that stock A will earn a return of 10% and stock “B” will earn a return of 8% next year. The beta of stock A is 1.2, while the beta of B is 0.8. The risk-free rate is 2 percent and the market risk premium is equal to 7 percent. Assuming that both stocks have been pricedusing CAPM, Which of the following choices is correct?
a. Stock A is undervalued, while stock B is fairvalued.
b Stock A is undervalued, while stock B is overvalued.
c. Both stocks are overvalued.
d. Stock A is overvalued, while stock B is undervalued.
e. Both stocks are undervalued.
