Capital Asset Pricing Model

Capital Asset Pricing Model (“CAPM”) derives a relationship between expected risk and expected return. In essence, the CAPM is built on the investment theory that higher risk justifies higher returns. The CAPM states that the return on an asset or security is equal to a risk, free return, plus a risk premium. Thus, according to the model, the projected return must be on par with or above the required return to rationalize the investment. It is a fairly complicated device used primarily by financial practitioners to calculate the pricing of high-risk securities.

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