Capital asset pricing model and SSM: Difference between pages

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imported>Doug Williamson
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imported>Doug Williamson
(Create page: Source: EBA 2016 EU-Wide Stress Test results)
 
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(CAPM).  
''European Union (EU).''


The model links the expected rates of return on traded assets with their relative levels of market risk (beta).
Single Supervisory Mechanism.
The model’s uses include estimating a firm’s market cost of equity from its beta and the prevailing market risk-free rate of return.


The CAPM assumes a straight-line relationship between the beta of a traded asset and the expected rate of return on the asset.
Expressed as a formula:
Ke = Rf + beta x [Rm-Rf]


Where:


Ke = cost of equity.
==See also==
Rf = risk free rate of return.
*[[Bank supervision]]
Beta = relative market risk.
* [[European Central Bank]]
Rm = average expected rate of return on the market.
 
For example where:
Rf = risk free rate of return = 4%;
Beta = relative market risk = 1.2; and
Rm = average expected rate of return on the market = 9%.
 
Ke = 4% + 1.2 x [9% - 4% = 5%]
= <u>10%.</u>
 
This investment requires an expected <u>rate of return</u> of 10%, higher than average rate of return on the market as a whole of only 9%, because its market <u>risk</u> (measured by Beta = 1.2) is greater than the average market risk of only 1.0.
 
Under the capital asset pricing model only the (undiversifiable) market risk of securities is rewarded with additional returns, because the model assumes that rational market participants have all fully diversified away all specific risk within their investment portfolios.
 
== See also ==
* [[Beta]]
* [[Business risk]]
* [[Capital gain]]
* [[Cost of equity]]
* [[Equity beta]]
* [[Equity risk]]
* [[Equity risk premium]]
* [[Financial risk]]
* [[Market risk]]
* [[Market risk premium]]
* [[Modern Portfolio Theory]]
* [[Risk]]
* [[Specific risk]]
* [[Systematic risk]]

Revision as of 15:11, 3 August 2016

European Union (EU).

Single Supervisory Mechanism.


See also