3 Minute Overview (Also Download Free Cheet Sheet at Bottom) and then scroll down for detailed calculations video
Beta for CAPM Premium Video (Free Preview)
Beta Levered vs. Unlevered Premium Video (Free Preview)
Arbitrage Pricing Theory vs. CAPM Premium Video (Free Preview)
Arbitrage Pricing Theory and Idiosyncratic Risk Premium Video (Free Preview)
Arbitrage Pricing Theory and Portfolio Diversification Premium Video (Free Preview)
Download FREE Cheat-Sheet PDF on CAPM click here
- CAPM is just a “model” or formula used to calculate COST OF EQUITY
- Cost of Equity is how much an investor “wants” to earn for investing in a company which is more risky than a safe bank deposit (or government bond), and (usually) more risky than investing in the general stock market with a bunch of stocks.
- It’s called a “cost” because that’s how much you should “fairly” pay your investors for investing in your risky company.
- In more complicated problems, you include the cost of equity as part of your WACC or Weighted Average Cost of Capital
- CAPM assumes that investing in many stocks is safer than investing in just one company’s stock: “don’t put all your eggs in one basket” sorta thing.. this is called “diversified” risk
- Rationale: An investor would “want” (or “expect”) more income (“return”) for investing in a highly risky company instead of the zero-risk bank/bond, and also instead of investing in a “medium-risk” general stock market. Therefore, cost of equity = “expected return”
You calculate Cost of Equity using the CAPM or Capital Asset Pricing Model Formula:
Ke = Rf + B (Rm-Rf)
DON’T panic! It’s MUCH EASIER than it looks! See this formula step-by-step in action, watch it for free in the video above.