Financial modelling - Assignment Example

This diversification was given a priority in the study and thus the tests were carried out on 10 different stocks. The study was very important in that it would assist economists and even future ones to understand the magnitudes and signs such as the relationship of beta to the prevailing market returns. With the understanding, they would be able to balance them and with this, the market force would be at a balance. The Australian Stock Exchange (ASX) was very influential in that it provided us with the required resources for the study.

In the review of the previous literature in the provided topic, the Capital Assets Pricing and Markets model it was identified that the relationship between the beta and the average return is minimal that what is provided. This is opposed to the major notion that the relationship between the beta and the expected return is explained by the difference in the beta (Pahl, 2009, 27). It was also identified that when carrying out the calculations of the expected returns for small or rather low business markets, the Capital Assets and Pricing Model may not be the best method to use.

With regard to the previous studies carried out in the topic, our hypothesis and results are superficial. This is due to the fact that there has been the inclusion of the Fama and French’s three factor model. When this model is put alongside the Capital Assets Pricing Model, it tends to show the benefits and the limitations of the model. The CAPM model has it that a linear relationship is provided between the lone assets and the accompanying risk. This is the major problem associated with the model.

The Three Factor Model has an upper hand in this case as the returns are distributed in two groups (Bringham, 2009, 47). There are those that major on the big stocks and there are those that major in small stocks measured using ratios. The model also adds two more factors that are not included in the CAPM.