1. JUE WANG

2. PLAN FOR TODAY 1.What's CAPM ？ 2.Empirical estimation 3.Importance of beta in finance 4.Authors of CAPM

3. WHAT'S CAPM ？ CAPM is a model that describes the relationship between risk and expected return and that is used in the pricing of risky securities. Definition The general idea behind CAPM is that investors need to be compensated in two ways: time value of money and risk

4. ASSUMPTIONS IN CAPM Can lend and borrow unlimited amounts under the risk free rate of interest Individuals seek to maximize the expected utility of their portfolios over a single period planning horizon. Assume all information is available at the same time to all investors The market is perfect: there are no taxes; no transaction costs ; the market is competitive.; securities are completely divisible The quantity of risky securities in the market is given.

6. No risk, or “risk free” Earn 2% “risk free rate” Medium Risk or “systema tic risk” Higher Risk (Ex. 10% higher) 2% +6% “risk premium” (i.e. prize) Total = 8% RfRf E(R m )E(R i ) β Expected return on the capital asset E(R i ) ＝ R f ＋ β ( E(R m ) – R f )

7. Ex. E(Ri) = 0.02 + 1.1(0.08-0.02) = 8.6% (expected return on the capital asset) AT LEAST!!!

8. β - Way to measure risk using “volatility” compared to a commonly used system (ex. The general stock market) Example: If the β of stock Alibaba (BABA) is 1.1, then that means when the general stock market goes up by 20%, then BABA will go up by around 22%

9. THE MEANING OF BETA IN SHARE MARKET Beta>1 Aggressive shares, these shares tend to go up faster then the market in a rising(Bull) market and fall more than the market in a declining(Bear)market. Beta<1 Defensive shares, these shares will generally experience smaller than average gains in a Bull market and smaller than average falls in a Bear market Beta=1 Neutral shares, these shares are expected to follow the market

10. If β is higher: then maybe higher profit, but also higher risk

11. CAPM is introduced by Jack Treynor (1961, 1962),William F. Sharpe (1964), John Lintner (1965) and Jan Mossin (1966) independently. William F. Sharpe Authors

12. CONCLUSION CAPM – Capital asset pricing model CAPM describes the relationship between risk and expected return E(R i ) ＝ R f ＋ β ( E(R m ) – R f ) β is a way to measure risk using “volatility” compared to a commonly used system.