Businses Finance - Speech or Presentation Example

As we know that, risk-free rate implies that a rate of return than we can obtain without taking any risk but in reality there is no such investment that is absolutely risk free. Even the safest investments carry some amount of risk. Since, treasury bills are the most reliable and safest investments therefore in the practical world the interest rate on US Treasury bills are often used as risk-free rate (krf). Similarly, common proxies for computing market risk (km) are S&P 500 and the New York Stock Exchange Index (Besley and Brigham 2000).

Finally, betas are estimated with the help linear regression models on the basis of returns for the index (S&P 500) in the corporate domain. Although the CAPM has gained real appreciation all over the world but since it is built on certain assumptions therefore those assumptions might not hold true all the times which reduce the reliability of CAPM. For instance, it assumes that returns are normally distributed but we know that there can be prodigious leaps in the market even as big as 5 to 7 standard deviations away from the mean.

Similarly it also assumes that there is no inflation but we are quite aware of the fact about the real world as we don’t know how much the prices rise after a day. Hence, these flaws make the CAPM model inconsistent with the real