Capital Asset Pricing Model (CAPM)
Chapters in this video
- 0:00 The Cora mystery: genius manager or lucky market
- 1:21 Unpacking the CAPM formula: flour, frosting, and hot sauce
- 3:00 The market return vs. market risk premium trap
- 4:02 Calculating expected return step by step
- 5:17 Finding alpha: actual minus expected, not actual minus market
- 6:44 Valuation decisions: undervalued, fairly valued, overvalued
- 7:46 Assumptions and limitations: diversification and historical beta
- 8:54 Rapid-fire exam recap
What this video covers
- The exact CAPM formula: risk-free rate plus beta times the market risk premium, and why the formula starts with the risk-free rate, not zero
- The critical distinction between expected market return and market risk premium, and why multiplying beta by the raw market return is a fatal exam error
- How to calculate expected return in two strict steps: compute market risk premium first, then multiply by beta, then add back the risk-free rate
- How to derive alpha by subtracting CAPM expected return from actual return, and why this sequencing matters on every alpha question
- The three valuation states: positive alpha (undervalued), zero alpha (fairly valued), and negative alpha (overvalued); and what each implies for a client recommendation
- Why CAPM assumes full diversification and uses only systematic risk (beta), which is historical and may not predict future sensitivity
- How to translate a negative alpha finding into a concrete rep recommendation, such as switching to a lower-cost alternative with identical beta exposure
Read the full lesson, free
This video's complete written lesson is free to read in the CertFuel app, no signup wall. The complete Series 6 course also includes adaptive practice questions and spaced-repetition flashcards.