Some concerns about BETA and CAPM The capital
Some concerns about BETA and CAPM The capital asset pricing model It is more appealing and is widely used by analysts, investors, and corporation. However, number of recent studies raised concerns about its validity. Eugene Fama (University of Chicago) Kenneth French (Darmouth) Found no historical relationship between stocks’ returns and their market betas.
SOME CONCLUDING THOUGHTS: IMPLICATIONS FOR CORPORATE MANAGERS AND INVESTORS. The connection between risk and return is an important concept, it has a numerous implication s for both corporate managers and investors. Why does the corporate managers focused on assessing risk in stocks.
The reason is that for management whose primary goal is stock price maximization, the overriding consideration is the riskiness of the firm stock, and the relevant risk of any physical asset must be measured in terms of its effect on the stock’s risk as seen by the investors.
Good Year Company is a tire company invested in new product, ‘recapped tires’. Sales is uncertain = Risky Good time Bad time v People would buy new cars, and new tires v People would keep their old cars and buy recap for tires. v Returns would be high on regular operations and low on recap divisions. v Returns would be low on regular operations and high on recap divisions. We can conclude that “ what appears to be a risky investment when viewed on stand-alone basis might not be very risky when viewed within the context of the company as a whole.
Key ideas that are important in investors and in corporate manager. • Higher-risk investments need to offer investors higher expected return • Diversification is crucial. By diversifying wisely, investors can dramatically reduce risk without reducing their expected return. • Real Returns is what matters, the real return is what remains after the inflation, while the Nominal Return when there is an expectation of increase in inflation. • There is no guarantee that the past result will repeat in the future. Stocks that have performed well in recent years might tumble, while stocks that have struggled may rebound.
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