What is the Bangladesh standard on Audit(BSA-300) ? Describes in details

 

 Capital Asset Pricing Model (CAPM)

The Capital Asset Pricing Model (CAPM) is a financial model that establishes a linear relationship between the expected return on an asset and its systematic risk, often measured by beta. It provides a framework for estimating the required rate of return for an investment based on its risk compared to the overall market.

Here are the key components and concepts of the Capital Asset Pricing Model:

1. Expected Return (R): The expected return on an investment is the compensation an investor requires for taking on risk. It is the sum of the risk-free rate and the risk premium.

   $R=R_f+\beta (R_m-R_f)$

   • $R$ is the expected return on the investment.
   • $R_f$ is the risk-free rate, representing the return on a risk-free investment.
   • $\beta$ is the beta coefficient, measuring the asset's systematic risk or volatility compared to the market.
   • $R_m$ is the expected return of the market.

2. Risk-Free Rate (Rf): 

   The risk-free rate is the theoretical return on an investment with zero risk, typically represented by the yield on government bonds.

3. Market Risk Premium (Rm - Rf): 

   This term represents the excess return that investors expect to receive for taking on the additional risk of investing in the market instead of a risk-free asset.

4. Beta ($\beta$): 

   Beta is a measure of the systematic risk of an investment compared to the market as a whole. A beta of 1 implies that the asset's price will move in line with the market, while a beta greater than 1 indicates higher volatility, and a beta less than 1 indicates lower volatility.

   $\beta =\frac{\text{Covariance of Asset Returns with Market Returns}}{\text{Variance of Market Returns}}$

The CAPM has some assumptions and limitations, including the assumption of efficient markets, the use of historical data for estimating beta, and the simplification of risk. Despite these limitations, the CAPM is widely used in finance for estimating the required rate of return for an investment and plays a significant role in capital budgeting and valuation.