ABSTRACT
The core topic in the finance literature is how to analyze risky assets, correctly price them, form an optimal portfolio of risky assets, choose a right hedging, and quantify the trade-back between risk and expected return. One of the main technical tools to solve these problems is the capital asset pricing model (CAPM) that is used by both professional portfolio managers and individual investors. Given certain simplifying assumptions outlined below, the CAPM states that the relationship between the expected return on a risky asset (such as a stock, a venture or a portfolio of securities) and the expected return on the entire security market is described by a single parameter (3 (beta). Empirically, (3 is defined as the slope of the ordinary least squares linear regression where the excess return on the market over the risk-free rate is the predictor and the excess return on the asset over the risk-free rate is the response. As an example, according to the theory, when (3 == 1, the excess return on the asset tends to mirror the excess return on
the market; when {3 = 0, there is no correlation between these excess returns.
