Capital Asset Pricing Model or CAPM is a model widely used in finance to assess the relationship between expected returns from assets and systematic risk. CAPM model helps in understanding that expected returns on a security equal the risk-free return along with the risk premium and this return is established on the beta of that particular security. It helps in calculating the expected returns of an asset using the following formula
ERi=Rf+βi(ERm−Rf)
Here,ERi means expected return of investment
Rf means a risk-free rate
βi means beta of the investment
ERm means
expected return of the market
(ERm−Rf) means market risk premium
This formula clearly defines
what is capital asset pricing model
which ensures compensation in the form of a risk premium for risky investments by the investors.
ERi or Expected ReturnIt is a long-term assumption of how an investment will offer returns of a capital asset over its lifetime.
Rf or Risk-Free RateRisk-free rate is generally equivalent to the yield on a 10-year bond since it is considered to be the most liquid bond.
βi or BetaBeta is the measure of a stock’s volatility or risk of its returns which is reflected by the market risk associated with it. This means that if beta is 1.5, the volatility of market average is 150%. If it is 1 then it is equal to average market return and if it is -1 then it means beta has perfectly negative correlation to market.
(ERm−Rf) or Market Risk PremiumA market risk premium is the compensation or the additional return which is the investors get for investing in risky asset classes. If the market is more volatile, the risk premium will be higher and vice-versa.
Now that you know
what is a capital asset pricing model
and what constitutes its measurement, you also understand that it is a crucial method which helps us determine the relationship between risks associated with a stock and the risk premium it provides.
Know more about capital asset pricing from the legal experts of NoBroker. Read More: What is Short-Term Capital Asset? How to Calculate Capital Gains Tax?Your Feedback Matters! How was this Answer?
Shifting, House?
✔
Lowest Price Quote✔
Safe Relocation✔
Professional Labour✔
Timely Pickup & Delivery
Intercity Shifting-Upto 25% Off
Check Prices
Intracity Shifting-Upto 25% Off
Check Prices
City Tempo-Upto 50% Off
Book Now
Authors Of The Question
What Is Capital Asset Pricing Model?
Riya
299 Views
1 Answers
2 Year
2022-03-30T19:12:34+00:00 2022-03-30T19:12:35+00:00Comment
Share