Calculate Expected Return Using CAPM
Expected Return: %
Visualization
- Risk-Free Rate: This is the return you'd expect from an investment with no risk, like government bonds.
- Beta: This measures how much the stock's price moves relative to the market. A higher beta means more volatility and potential for higher returns.
- Market Return: The average return of the market, which we use as a benchmark.
- Expected Return: This is the return we calculate using the CAPM formula, considering the risk-free rate, beta, and market return.
Real-World Applications of CAPM
The CAPM is used in various ways in finance:
- To estimate the cost of equity capital for companies.
- For portfolio management and optimization.
- To value stocks and other financial assets.
- To assess the performance of mutual funds and other investment portfolios.
Assumptions and Limitations of CAPM
CAPM is based on several assumptions:
- Investors are rational and prefer less risk.
- Markets are efficient, and all investors have access to the same information.
- There are no taxes or transaction costs.
- Investors can lend and borrow at the risk-free rate.
However, it has some limitations:
- Real markets aren't perfectly efficient.
- Investor behavior can be irrational.
- Taxes and transaction costs exist.
- Risk-free borrowing and lending aren't always possible.
Case Studies
Let's look at some real-world examples of CAPM in action:
- Company Valuation: Analysts use CAPM to estimate the cost of equity for companies like Apple and Microsoft.
- Portfolio Management: CAPM is used in constructing and optimizing investment portfolios.