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Capital Asset Pricing Model-assumptions & reality

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What is the Capital Asset Pricing Model (CAPM)? of CAPM realistic? Why or why not

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Solution Summary

The answer contains the meaning and formula for computing expexted rate of return on security by using CAPM model, assumptions underlying CAPM model and also why the assumptions are not realistic

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Capital Asset Pricing Model:

CAPM model was introduced by Jack Trynor, William Sharpe and Jan Mossin .CAPM model is the model for pricing the individual security or the portfolio. It is used to determine required rate of return of an asset when the asset is to be included in the well diversified portfolio. Here, Beta is used to denote asset's sensitivity to non diversifiable risk. In CAPM model Security Market line is used to determine the price of the individual security with respect to its risk class. Security Market line depicts relation between the beta and the assets' expected rate of return. Therefore, CAPM model informs the relation of risk to return to any security in the market. Price under CAPM model is computed by the ...

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