1. What is the CAPM?

The Capital Asset Pricing Model (CAPM) describes the relationship between systematic risk and expected return for assets, particularly stocks. It's widely used in finance to determine a theoretically appropriate required rate of return of an asset.

2. How Does the Calculator Work?

The calculator uses the CAPM formula:

Where:

• \( RiskFree\ Rate \) — Return of risk-free investments (like 10-year Treasury bonds)
• \( Beta \) — Measure of stock volatility compared to the market
• \( Market\ Return \) — Expected return of the market portfolio

Explanation: The model accounts for the time value of money (risk-free rate) and compensation for taking on additional risk (beta and market risk premium).

3. Importance of Cost of Equity

Details: Cost of equity is a crucial component in corporate finance for making investment decisions, evaluating projects, and determining a company's weighted average cost of capital (WACC).

4. Using the Calculator

Tips: Enter risk-free rate and market return as percentages (e.g., 2.5 for 2.5%). Beta is unitless and typically ranges from 0 to 2 for most stocks.

5. Frequently Asked Questions (FAQ)

Q1: What's a typical risk-free rate?
A: Usually the yield on 10-year government bonds (e.g., 2-4% in stable economies).

Q2: How do I find a stock's beta?
A: Available from financial websites like Bloomberg, Yahoo Finance, or your broker's research tools.

Q3: What market return should I use?
A: Historical average market returns are often used (typically 6-10% for major indices).

Q4: Are there limitations to CAPM?
A: Yes, it assumes perfect markets and that beta fully captures risk, which may not always be true.

Q5: When would I use cost of equity?
A: For valuation (DCF models), capital budgeting, and determining hurdle rates for investments.