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imported>Doug Williamson |
imported>Administrator |
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| (CAPM).
| | The currency which is quoted as the number of units per 1 unit of the base currency. |
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| The capital asset pricing model links the expected rates of return on traded assets with their relative levels of market risk (beta).
| | == See also == |
| | | * [[Direct quote]] |
| The model’s uses include estimating a firm’s market cost of equity from its beta and the prevailing theoretical market risk-free rate of return.
| | * [[Foreign exchange]] |
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| The CAPM assumes a straight-line relationship between the beta of a traded asset and the expected rate of return on the asset.
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| Expressed as a formula:
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| Ke = Rf + beta x [Rm-Rf]
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| Where:
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| Ke = cost of equity.
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| Rf = theoretical [[risk free rate of return]].
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| Beta = relative market risk.
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| Rm = average expected rate of return on the market.
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| For example where:
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| Rf = theoretical risk free rate of return = 4%;
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| Beta = relative market risk = 1.2; and
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| Rm = average expected rate of return on the market = 9%.
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| Ke = 4% + 1.2 x [9% - 4% = 5%]
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| = <u>10%.</u>
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| 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.
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| 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.
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| == See also ==
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| * [[Beta]]
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| * [[Business risk]]
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| * [[Capital gain]]
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| * [[Cost of equity]]
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| * [[Equity beta]]
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| * [[Equity risk]]
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| * [[Equity risk premium]]
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| * [[Financial risk]]
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| * [[Market risk]]
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| * [[Market risk premium]]
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| * [[Modern Portfolio Theory]]
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| * [[Risk]]
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| * [[Specific risk]]
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| * [[Systematic risk]]
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Revision as of 14:20, 23 October 2012
The currency which is quoted as the number of units per 1 unit of the base currency.
See also
