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Capital Asset Pricing Model (CAPM) is a sophisticated mathematical method of formulating a relationship between expected risk and expected return. In essence, Capital Asset Pricing Model is built on a pervasive investment theory, in which Capital Asset Pricing Model claims that higher risk justifies higher returns. Building upon that assertion, Capital Asset Pricing Model states that the return on an asset or security is equal to a risk-free return, plus a risk premium. Thus, according to the Capital Asset Pricing Model, the projected return must be on par with or above the required return to rationalize the investment. End calculation of the Capital Asset Pricing Model is conveyed graphically by the security market line (SML). Capital Asset Pricing Model is a fairly complicated device used primarily by trained financial practitioners to calculate the pricing of high-risk securities. |
