THE CAPITAL ASSET PRICING MODEL

THE CAPITAL ASSET PRICING MODEL ‘The Capital Asset Pricing Model (CAPM)’ has dominated academic literature and greatly influenced the practical world of finance and business for almost half a century; as a way to measure systematic risk. Researchers in the 1980s and 1990s have questioned the relationship between systematic risk, measure beta, and returns on securities. Despite heavy criticism of the model from the academic community, CAPM has reached new heights of popularity in the outside world (Arnold pp 269). Hundreds of thousands have studied the CAPM in universities and now hold key positions ready to make decisions based on the model. Does CAPM-beta really provide the answer to the risk-return relationship? Does CAPM provide a good account for pricing a firm’s debt or equity? Hence is CAPM of relevance to corporate managers? Explain and discuss this contention The assignment should be no longer than 1000 words and should be submitted by, Friday, 27th February 2015. Note: This is an individual assignment. The minimum accreditation thresholds of 35% apply, in addition to the overall 40% pass mark requirement. This assignment comprises 15% of your overall mark. Assignment must be submitted through Turnitin prior to hard copy submission to the undergraduate centre. Please note that the Turnitin match must not materially exceed 20%. Assignment Suggestion ______________________________________________________________ This assignment relates to the lecture on portfolio theory and the capital asset pricing model. To answer it satisfactorily, you will need to give some thought to the question and to discuss the relationship between risk and return, define the fundamental features of the capital asset pricing model and discuss the empirical evidence relating to the CAPM. The main body of your report should focus on why the academic community are turning away from the CAPM. The latter part of the question requires more thought, and you should try to highlight features of the CAPM which lends itself to the context of corporate managers. In the development of your answer you are expected to include relevant economic and financial concepts and where appropriate (you may if you wish make use of relevant diagrams). Finally remember imperfect English is infinitely preferable to plagiarism! Portsmouth Business School P23361 Financial Management References Black, F., Jensen, M. C., & Scholes, M. (1972). The Capital Asset Pricing Model:some empirical tests. Studies in the Theory of Capital Markets . Blume, M., & Friend, I. (1973). A new look at teh Capital Asset Pricing Model. Journal of Finance , 28 (1), 19-33. Elton, E., Gruber, M., Brown, S., & Goetzmann, W. (2011). Modern Portfolio Theory and Investment Analysis. New York: Wiley & Sons. Fama, G., & French, K. (1992). The Cross-section of expected stock returns. Journal of Finance , 427-465. Friend, I., Westerfield, R., & Gra, M. (1978). New Evidence on the Capital Asset Pricing Model. The Journal of Finance , 33 (3, Papers and Proceedings of the Thirty-SixthAnnual Meeting American Finance Association), 903-917. Roll, R. (1977). A critique of the Asset Pricing Theory's tests:Part 1: On past and potential testability of the theory. Journal of Financial Economics , 129-176. Sharpe, W. F. (1964). Capital asset prices:a theory of market equilibrium under conditions of risk. Journal of Finance , 425-442. Portsmouth Business School P23361 Financial Management Students are reminded that the definition of plagiarism includes claiming another person’s work as your own; for example through inadequate references of sources of material used (including internet sources). Direct quotations must be enclosed in quotation marks and referenced. Using other people’s ideas requires a reference even if a direct quote is not included. Learning outcomes • Discuss the empirical evidence relating to CAPM • Why is the academic community turning against CAPM? • Explore alternatives e.g. multi-factor models; include arbitrage pricing model and the threefactor model Alternatives • Coursework guidance Assumptions of CAPM • No transaction costs (frictionless markets) • Assets are infinitely divisible (any investor can take any position regardless of wealth) • No personal taxes • No single investor can affect the stock price – i.e. one can buy/sell any amounts • Unlimited short sales are allowed • Unlimited lending/borrowing at risk free • Homogeneity of expectations – mean and variance of returns, relevant periods, inputs • All assets are marketable (including human capital) • Only portfolio of risky assets an investor will hold is the market portfolio D Assumptions do not hold in the REAL WORLD????? Technical problems with the CAPM Does the CAPM work in practice? Does the CAPM work in practice? Does the CAPM work in practice? Beta and returns, 1931-91 Beta and Returns, 1966-91 Alternative forms of capital asset pricing models Factor Models Arbitrage Pricing Theory FF3 Factor model Assignment briefing • A 1000 word critical thinking essay on CAPM • Individual assignment • 15% of unit marks for Financial Management students • 20% of unit for Financial Management for Non Accountant Students • Deadline is 27 February 2015 • Submitted via Turnitin and paper copy to UGO What is Critical thinking? It involves weighing up the arguments and evidence for and against something. “Critical thinking calls for persistent effort to examine any belief or supposed form of knowledge in the light of the evidence that supports it and the further conclusions to which it tends”. (Glaser, 1941) Glaser’s priorities for critical thinking • Persistence – considering an issue carefully and more than once, probably over a period of time • Evidence – evaluating the evidence put forward in support of or against a belief or viewpoint • Implications • • • • considering where the belief or viewpoint leads what conclusions would follow whether these conclusions are suitable and rational if not should the belief or viewpoint be reconsidered? Critical Questions • • • • • • Why? How far? How much? How often? To what extent? How do we know this is true? • How reliable is this source? • What could be going on below the surface? • What do we know about this? • Which is preferable? • For what reasons? Essay content • • • • Relates to Portfolio theory and CAPM Understanding of Risk and return Brief description of features of both models Why is the academic community turning away? Main body of the essay, be critical, for and against. • Set the analysis in the context of the finance managers role • Use diagrams Marking schedule • A marking schedule is attached to the question as a guide • This shows you what you have to achieve to get a good grade in this essay • Please use turnitin in advance to check your essay prior to submission • Turnitin space on moodle where you can submit for checking Turnitin • Turnitin will check what sources you have used and how many • It will also check your referencing • It can spot cutting and pasting • Preferable to use your own words PLACE THIS ORDER OR A SIMILAR ORDER WITH US TODAY AND GET AN AMAZING DISCOUNT :)