contemporary investments: chapter 18 chapter 18 capital asset pricing theory what is the capital...
Post on 19-Dec-2015
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TRANSCRIPT
Chapter 18 CAPITAL ASSET PRICING THEORY• What is the capital market line (CML)?
• How is the Capital Asset Pricing Model (CAPM) developed?
• What is the difference between the standard deviation risk and beta risk measures?
• How can an investor apply the CAPM to security analysis?
• How do you estimate beta?
• What are the good news and the bad news about beta?
Assumptions of the Capital Asset Pricing Model• Investors have homogeneous
expectations
• Frictionless capital markets
• Investors are rational and seek to maximize their expected utility functions
• Investment is for one-period only
• All investors can borrow or lend at the riskfree rate
Efficient frontier and the optimal risky portfolio
• Developing the capital market line (CML)
– Introducing the riskfree asset.
– The capital market line (CML) or the borrowing-lending line.
– The Portfolio Separation Theorem
– The market portfolio, M
Capital Asset Pricing Model
• Developing a relative risk measure
• Understanding beta
– Systematic risk or market risk
– Diversifiable risk or firm-specific risk
CAPM derivation
• Security risk and return
– Reward for investing in a security
– Security risk
– Security’s reward-to-risk ratio
– Risk/return relationship
– The security market line (SML)
• Differences between the CML and SML
CAPM and security analysis
• Estimating the required return.
• Estimating the predicted return.
• Security analysis decision rule.
• Comparison with fundamental analysis.
Estimating Beta
• Security characteristic line
• Information service beta estimates
• Calculating beta: Separating systematic risk from diversifiable risk.
• Differences between the SML and the security characteristic line
Good news and bad news about Beta
• How reliable are beta estimates?
• Does beta really measure risk?
• The verdict on beta.
• Implications for investors