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Lecture

Capital Asset Pricing Model: Theory and Applications

In course

MGT-301: Foundations in financial economics

The aim of this course is to expose EPFL bachelor students to some of the main areas in financial economics. The course will be organized around six themes. Students will obtain both practical insights through real-world examples and understand how one can ...

Description

This lecture covers the Capital Asset Pricing Model (CAPM) in financial economics, discussing the risk-return trade-off theory, the market portfolio, the Security Market Line (SML), estimating betas, and applications of the CAPM in portfolio choice, security selection, and performance evaluation.

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Instructors (3)

Julien Hugonnier

Pierre Collin-Dufresne

Rüdiger Fahlenbrach

RUEDIGER FAHLENBRACH is Full Professor at Ecole Polytechnique Fédérale de Lausanne (EPFL), Switzerland. Formerly on the faculty of the Fisher College of Business of the Ohio State University (USA), he holds a Ph.D. in Finance from the University of Pennsylvania (Wharton). He holds a senior research chair from the Swiss Finance Institute, and is research member at the European Corporate Governance Institute (ECGI). He has research interests in empirical corporate finance, in particular corporate governance and entrepreneurship. Ruediger Fahlenbrach has published in the leading academic journals in finance, including the Journal of Finance, the Journal of Financial Economics, the Review of Financial Studies and the Journal of Financial and Quantitative Analysis. Ruediger currently serves a three year term as elected director of the European Finance Association (2018-2020). He is Associate Editor of the Review of Finance, and former associate editor of the Review of Financial Studies and Financial Management. His research has been reported in many large-circulation newspapers such as The New York Times, The Wall Street Journal, The Economist, Le Temps, NZZ, Handelsblatt, Forbes Magazine, USA Today, and Fortune Magazine.

Official source

Ontological neighbourhood

Economics

Microeconomics: Financial economics

Related concepts (32)

Capital asset pricing model

In finance, the capital asset pricing model (CAPM) is a model used to determine a theoretically appropriate required rate of return of an asset, to make decisions about adding assets to a well-diversified portfolio. The model takes into account the asset's sensitivity to non-diversifiable risk (also known as systematic risk or market risk), often represented by the quantity beta (β) in the financial industry, as well as the expected return of the market and the expected return of a theoretical risk-free asset.

Security market line

Security market line (SML) is the representation of the capital asset pricing model. It displays the expected rate of return of an individual security as a function of systematic, non-diversifiable risk. The risk of an individual risky security reflects the volatility of the return from security rather than the return of the market portfolio. The risk in these individual risky securities reflects the systematic risk. The Y-intercept of the SML is equal to the risk-free interest rate.

Asset pricing

In financial economics, asset pricing refers to a formal treatment and development of two main pricing principles, outlined below, together with the resultant models. There have been many models developed for different situations, but correspondingly, these stem from either general equilibrium asset pricing or rational asset pricing, the latter corresponding to risk neutral pricing.

Modern portfolio theory

Modern portfolio theory (MPT), or mean-variance analysis, is a mathematical framework for assembling a portfolio of assets such that the expected return is maximized for a given level of risk. It is a formalization and extension of diversification in investing, the idea that owning different kinds of financial assets is less risky than owning only one type. Its key insight is that an asset's risk and return should not be assessed by itself, but by how it contributes to a portfolio's overall risk and return.

Consumption-based capital asset pricing model

The consumption-based capital asset pricing model (CCAPM) is a model of the determination of expected (i.e. required) return on an investment. The foundations of this concept were laid by the research of Robert Lucas (1978) and Douglas Breeden (1979). The model is a generalization of the capital asset pricing model (CAPM). While the CAPM is derived in a static, one-period setting, the CCAPM uses a more realistic, multiple-period setup.

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