Portfolio Theories Flashcards
(37 cards)
is a model that describes the relationship between the expected return
of an investment and its systematic risk
CAPM
The model provides a method for pricing risky securities by relating expected
return to market risk
CAPM
Tells us how financial market price securities and determine expected returns
on capital investment
CAPM
Who developed CAPM
W.M Sharpe
- Non-diversifiable risk
- Uncontrollable
- Risks that are result of external
forces or those not within the
control of the company
Systematic Risk
- Diversifiable risk
- Controllable
- Risks specific to a particular
company or industry
Risks that can be controlled
through diversification
Unsystematic Risk
Solve this:
Rf = 3%
Market return E(Rm) = 10%
Beta (β) of Stock A = 1.5
Found in notes
is a key concept in the Capital Asset
Pricing Model (CAPM). It measures the systematic risk (market risk) of a security or portfolio in comparison to the overall market.
Beta Coefficient
represents how much a stock’s returns move relative to the market.
Beta
A technology company has a beta of 1.5, which means it’s 50% more volatile than the market.
If:
Risk-free rate = 3%
Market return = 10%
Found in notes
A utility stock has a beta of 0.6, meaning it’s less volatile than the market.
If:
Risk-free rate = 3%
Market return = 10%
Found in notes
is a graphical representation of the Capital
Asset Pricing Model (CAPM). It shows the relationship between an asset’s expected return and its systematic risk, measured by beta (β).
Security Market Line (SML)
BetaMeaning
=
The asset moves in line with the market
=
The asset is more volatile than the market (higher risk, higher return)
=
The asset is less volatile than the market (lower risk, lower return)
=
The asset moves in the opposite direction of the market
β = 1
β > 1
β < 1
β < 0
This model addresses more sources of return variation and is useful for
asset pricing and performance evaluation.
Fama-French Five-Factor Model
This model builds on the Fama-French Three-Factor Model by adding a momentum factor (MOM)—the tendency of stocks with strong past returns to continue performing well in the short term.
Carhart Four-Factor Model
This model links expected asset returns to consumption risk, suggesting that investors care about how asset returns relate to changes in their
consumption overtime.
Consumption-Based CAPM (CCAPM)
is a multi-factor asset pricing model based on the idea that an asset’s returns can be predicted using the linear relationship between the asset’s expected return and a number of macroeconomic variables that capture systematic risk.
Arbitrage Pricing Theory (APT)
For example, the following four factors have been identified as explaining
a stock’s return and its sensitivity to each factor and the risk premium
associated with each factor have been calculated:
Gross domestic product (GDP) growth: ß = 0.6, RP = 4%
Inflation rate: ß = 0.8, RP = 2%
Gold prices: ß = -0.7, RP = 5%
Standard and Poor’s 500 index return: ß = 1.3, RP = 9%
The risk-free rate is 3%
Found in notes
is an investment theory
which suggests that the prices of financial
instruments reflect all available market
information.
efficient
market theory,
It suggests that all past market prices and data are
reflected in current prices. In other words, you can’t
predict future prices based on past data.
Weak Form EMT
It posits that all publicly available information is
reflected in current prices.
This includes past prices and data like financial statements and economic indicators.
Semi Strong
Form EMT
It argues that all public and private information is
reflected in current prices.
This means that even insider information can’t
help you beat the market.
Strong Form EMT
argues that markets are efficient, leaving no room to
make excess profits by investing since
everything is already fairly and accurately
priced.
efficient markets hypothesis (EMH)
It was primarily derived from concepts
attributed to _________ research as
detailed in his 1970 book, “Efficient Capital
Markets: A Review of Theory and Empirical
Work.”
Eugene Fama
