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Lecture 37

The Capital Asset Pricing Model and Arbitrage Pricing Theory

Introduction

Better asset pricing models are some of the most researched topics in finance, with broad applications in risk management, asset allocation, and market valuations. A strategy can use these asset pricing models in many ways, such as building out a long-short equity strategy or hedging an existing portfolio based on factor exposures. This lecture covers the basics of the Capital Asset Pricing Model and looks into its derivation. We examine the trade-off between risk and return in real world applications founded on the premises behind the CAPM. Further, we explore the Arbitrage Pricing model with data-driven examples provided using the Fama-Macbeth regressions.

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