How to Calculate C A P M
What is C A P M?
Capital Asset Pricing Model calculates required return: r = r_f + β(r_m - r_f). Links stock risk to expected return.
Step-by-Step Guide
- 1Input risk-free rate, market return, security beta
- 2Calculate required return using CAPM
- 3Compare to expected return for investment decision
Worked Examples
Input
r_f=2%, market=10%, β=1.5
Result
Required return = 2% + 1.5(8%) = 14%
High risk, high return required
Common Mistakes to Avoid
- ✕Using incorrect risk-free rate
- ✕Assuming β stable
- ✕Neglecting small-stock premium
Frequently Asked Questions
Is CAPM universally accepted?
Useful but debated; assumptions questioned by many academics.
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