About the CAPM Calculator
The capital asset pricing model claims that investors should only be paid for risk they cannot diversify away. Everything else nets out across a portfolio, so the return an asset owes you is the risk-free rate plus its beta multiplied by the market risk premium. With a 4 percent government bond, a beta of 1.2 and a 9 percent expected market return, the model demands 10 percent.
Beta is the sensitivity of the asset to the market as a whole. A beta of 1 moves in step, 1.5 exaggerates every swing by half, and a beta below zero moves the other way, which is why some investors hold gold miners or long dated bonds. The market risk premium is the second input that does the work, and small changes to it swing the answer hard: dropping the market return by one point takes 1.2 points off the expected return in this example.
Treat the output as a hurdle rate rather than a forecast. Estimates of beta shift depending on the window and index used, and the equity risk premium is argued over by professionals every year. Because the same expression is the standard route to a discount rate, the Cost of Equity Calculator also offers it alongside the dividend growth alternative, and the rate it produces feeds straight into the DCF Calculator.
How to use
- Enter a risk-free rate, usually the yield on a government bond matching your horizon.
- Enter the beta of the asset, from a data provider or your own regression.
- Enter the expected return of the whole market, often a long run equity index average.
- Read the expected return and the risk premium the model attaches to this asset.
Common questions
- What is the CAPM formula?
- Expected return = risk-free rate + beta x (market return - risk-free rate). The bracketed part is the market risk premium.
- Where do I find beta?
- Most stock data sites publish a beta measured against a broad index over three or five years. Different providers disagree, so check the window they used.
- What beta should an unlisted company use?
- Analysts take betas from listed peers, remove the effect of their debt, then reapply the target company gearing. This tool accepts whatever figure you arrive at.
- Can beta be negative?
- Yes, and the tool accepts it. A negative beta means the asset tends to rise when the market falls, so the model asks for less than the risk-free rate.