We use cookies to give you the best experience possible. By continuing we’ll assume you’re on board with our cookie policy

See Pricing

What's Your Topic?

Hire a Professional Writer Now

The input space is limited by 250 symbols

What's Your Deadline?

Choose 3 Hours or More.
Back
2/4 steps

How Many Pages?

Back
3/4 steps

Sign Up and See Pricing

"You must agree to out terms of services and privacy policy"
Back
Get Offer

The theory of the Capital Asset Pricing Model

Hire a Professional Writer Now

The input space is limited by 250 symbols

Deadline:2 days left
"You must agree to out terms of services and privacy policy"
Write my paper

The theory of the Capital Asset Pricing Model – CAPM is pretty basic. This theory though it seems very small is a very important part of the business world. The expected return on a long futures position depends on the Beta of that individual futures contract. If the Beta is greater than 0, the futures price should rise over time. If the Beta is equal to 0, the futures price should remain the same over time. If the Beta is less than 0, the futures price should decline over time.

Don't use plagiarized sources. Get Your Custom Essay on
The theory of the Capital Asset Pricing Model
Just from $13,9/Page
Get custom paper

The Capital Asset Pricing Model – CAPM shows risk in a particular asset. With the Capital Asset Pricing Model – CAPM, traders can avoid much of the risk they receive because this broadens their chances. Therefore, only unavoidable risk should or will be compensated. Nevertheless, even after a trader expands his portfolio, some risk will remain.

Because some risk is associated with the market as a whole, this risk cannot be countered through expanding. In other words, no matter how hard a trader tries to avoid risk, some risk will remain. This is just a fact of a matter and will not and cannot be changed.

The Beta measures the risk associated with one particular asset in relation to the overall market. Beta also measures how much a stock tends to change in price relative to the market as a whole, based on the last 60 months of market. Therefore, with a Beta of zero, the return should be zero. A Beta above zero should bring a positive return to a long position. And a Beta below zero should bring a negative return on a long position. For example, a beta coefficient of one would mean that the market and the given stock tend to move the same. So, a five percent move in the market should produce a five percent move in the stock. A beta coefficient of two will fluctuate twice as much as the market.

Beta is used is used in many different modes. One of the modes is low relative mode. This is used to find stocks that fluctuate less than the market. But, if you think that the market is moving up and down and you want to find stocks that will move up faster than the market, you would use the high relative mode. Absolute mode is another mode used by Beta. This mode is used when you want to find stocks that move. If the stocks are faster than the market you use 1.5 as the minimum and 10 as the maximum. If they are slower than the market than you would use 0 as the minimum and .50 as the maximum.

Market Risk descends from market-wide factors and these factors affect all businesses and the economy as whole. These factors include things such as interest rates, inflation rates, currency exchange rates, unemployment rates. Not only are these factors but another factor is the risk of natural isasters such as earthquakes, floods, fire, etc. It is generally not possible to diversify away from this risk. The only possible exception to this statement is where an investor chooses to reposition from a domestic market to an international market. Risks previously thought of as “Market Risks” may now become  Specific Risks”.

For example, a Japanese investor who only operates on the Tokyo markets may think of “Market Risks” in a Japanese context. By moving to world  arkets, some risks, previously thought of as “Market Risks” now become “Specific Risks”, in other words specific to the Japanese markets and,  herefore becomes diversifiable. The difference in Market risk and Specific risk (diversifiable risk) is that Specific risk only affects specific businesses not general ones as Market risk does. Specific risks apply to an individual company, a company with a particular industrial sector, and companies in a specific geographical of country region. They can be managed by using the Modern Portfolio Theory. This tells us that by combining assets whose returns are not associated with one another, we can determine combinations of assets that provide the least risk for each possible expected return.

Cite this The theory of the Capital Asset Pricing Model

The theory of the Capital Asset Pricing Model. (2018, Jul 02). Retrieved from https://graduateway.com/the-theory-of-the-capital-asset-pricing-model/

Show less
  • Use multiple resourses when assembling your essay
  • Get help form professional writers when not sure you can do it yourself
  • Use Plagiarism Checker to double check your essay
  • Do not copy and paste free to download essays
Get plagiarism free essay

Search for essay samples now

Haven't found the Essay You Want?

Get my paper now

For Only $13.90/page