StudentShare
Contact Us
Sign In / Sign Up for FREE
Search
Go to advanced search...

Financial Economics - Essay Example

Comments (0) Cite this document
Summary
Limitations of Capital Asset Pricing Model and Arbitrage Pricing Theory as an Alternative Theoretical Limitations of CAPM Capital Asset Pricing Model is indicative of the relationship between the risks associated with an asset and the returns, which can be expected thereof (Giovanis, 2010)…
Download full paper File format: .doc, available for editing
GRAB THE BEST PAPER93.9% of users find it useful
Financial Economics
Read Text Preview

Extract of sample "Financial Economics"

Download file to see previous pages Under CAPM, the variations associated with returns are considered as sufficient measure of the risk related to a particular portfolio. But, on the other hand, there are several other risk factors, which may be considered as influential in the determination of risk involved in the investment in a portfolio. Apart from this, as per the assumption made in CAPM, returns related to assets are deemed to be normally distributed, which in real life situation, cannot be guaranteed as such (Kurschner, 2008). In addition to this, it is also pertinent to note that investors do not possess the same ability to invest and therefore investment costs to be borne by them may vary significantly. Similarly, assumptions relating to no variations in the expected returns and the concept of asset market without friction can also be considered as unfeasible. In fact, markets, which are assumed to be frictionless are reflective of situations where there exist no costs of transaction and other costs relating to taxes or any limit on transactions. Moreover, the model also presumes that the assets traded in the market can be segregated to an infinite extent, thus enabling them to be held or sold. Apart from these limitations, one other significant limitations associated with the model is that CAPM does not require investors to take into consideration unsystematic risk, as the model presumes that it is not difficult to diversify such risks. But, since returns are directly related to the returns on market portfolio, therefore it is not possible to eliminate such risks with mere diversification (Kurschner, 2008). Roll’s Critique of the Early Empirical Tests of the CAPM Based on the empirical testing of the CAPM, Roll’s critical evaluation of the model relates to the determination of the fact that whether CAPM equation is valid and does it hold its ground? As per the equation of CAPM, E (Ri) signifies the returns expected from investment in a security “i” (Roll, 1977). On the other hand, Rf is representative of the risk free return and ? represents systematic risk associated with the security for expected returns are to be determined. Moreover, it is also pertinent to note here that under CAPM making use of expected returns in relation to a real market portfolio carries out the evaluation of investment portfolio. As per the criticism of Roll, there is a relationship between systematic risk and returns expected from investment in a security, which is linear, provided that the value for ? is determined in the form of an index portfolio. Apart from this, the intercept also equates with the return when a portfolio with minimum return is considered. In light of these findings, it can be stated that the assumptions of the model are not required (Roll, 1977). Moreover, Roll also argued that as Capital Asset Pricing Model is concerned with the mean and variances therein in relation to efficiency of market portfolios and since it is not possible to observe the investments for which returns are being determined through it, it is therefore not possible to evaluate the model through empirical testing (Roll, 1977). Arbitrage Pricing Theory as an Alternative to CAPM’s Limitations The Arbitrage Pricing theory reflects that pricing of an ...Download file to see next pages Read More
Cite this document
  • APA
  • MLA
  • CHICAGO
(“Financial Economics Essay Example | Topics and Well Written Essays - 1000 words”, n.d.)
Financial Economics Essay Example | Topics and Well Written Essays - 1000 words. Retrieved from https://studentshare.org/macro-microeconomics/1492973-financial-economics
(Financial Economics Essay Example | Topics and Well Written Essays - 1000 Words)
Financial Economics Essay Example | Topics and Well Written Essays - 1000 Words. https://studentshare.org/macro-microeconomics/1492973-financial-economics.
“Financial Economics Essay Example | Topics and Well Written Essays - 1000 Words”, n.d. https://studentshare.org/macro-microeconomics/1492973-financial-economics.
  • Cited: 0 times
Comments (0)
Click to create a comment or rate a document

CHECK THESE SAMPLES OF Financial Economics

Financial Economics 2012- Quantitative Methods II, Statistics Project

... cannot be made using treasury bills though, as they are relatively risk-free. Information on the beta value can also help investors in choosing a set of stocks or investments with the highest expected returns or that with the lowest risk, known as efficient frontier. Efficient frontier results into diversification hence resulting in a reduction of unsystematic risks. Reference Perold, A. F. (2004). The Capital Asset Pricing Model. Journal of Economic Perspectives, 18:3. 3–24.... Asset Pricing Model Introduction An essential question in finance is how the risk of an investment should affect its return. It is for this reason that the Capital Asset Pricing Model (CAPM) was devised. Capital Asset Pricing Model (CAPM), is a theory that explains...
4 Pages (1000 words) Essay

Financial Economics Assignment

.... References Top of Form FAMA, E. F., & FRENCH, K. R. (2004). The capital asset pricing model: theory and evidence. Hanover, NH, Tuck School of Business at Dartmouth. http://papers.ssrn.com/sol3/papers.cfm?abstract_id=440920. Top of Form PRIESTLEY, R. (1996). The arbitrage pricing theory, macroeconomic and financial factors, and expectations generating processes. Journal of Banking & Finance. 20, 869-890. Top of Form ANSARI, V. A. (2000). Capital Asset Pricing Model: Should We Stop Using It? VIKALPA.25, 55-64. Bottom of Form Bottom of Form Bottom of Form... A (a) In the capital asset pricing model there are assumptions which are made in order to apply the model. The assumptions of the model lead tomany of the limitations of the model and...
4 Pages (1000 words) Assignment

Economics: Money & Financial institutions

... by adding up savings, small deposits, retail funds and M1. The seasonally adjusted M2 four week average as at September is $8296.7 billion Previous and current year M1 and M2: M1 and M2 has been on the increase since 2007, there has been a gradual increase in M1 and M2 and the reason why this is the case is due to increased government spending aimed at helping the economy y to recover from the recession. Question 2: a. financial market: Value of share traded refers to the total number outstanding shares multiplied by the share price, therefore given an example that $30 trillion shares were traded in the NYSE then this means that this is the price of shares multiplied by the total shares outstanding and therefore it is true to state...
2 Pages (500 words) Speech or Presentation

FNCE 300 : Financial Economics Assignments

...Business FNCE 300 Financial Economics Assignments Chapter 5. Question 5 A.   Inflation Rate Investment Rate Current Consumption     3% 8 03     Savings     Savings   Open Earnings Consumption Close 1 1,000,000 80,000 1.06 1,079,999 2 1,079,999 86,400 1.09 1,166,398 3 1,166,398 93,312 1.13 1,259,708 4 1,259,708 100,777 1.16 1,360,484...
30 Pages (7500 words) Assignment

Financial economics

....Amihud,Christensen,Mendelson,Black and Kothari-‘ general reaction to Banz s (1981) finding that the CAPM may be missing some aspect of reality was, they conclude that CAPM is only an abstraction from reality, expecting it to be exactly right is unreasonable’ References; Abbas, S. A., M. Belhocine, A. El Ganainy, and M. Horton, 2011, “Historical Patterns and Dynamics of Public Debt- Evidence from a New Database,” IMF Economic Review, Vol. 59, No. 4, pp. 717-42. Abiad, A., R. Balakrishnan, P. K. Brooks, D. Leigh, and I. Tytell, 2013, “What’s the Damage: Medium-term Output Dynamics after Financial Crises,” in S. Claessens, M. A. Kose, L. Laeven, and F. Valencia, eds., Financial Crises, Consequences, and Policy Responses, forthcoming. Abiad...
10 Pages (2500 words) Essay

FINANCIAL ECONOMICS

...Roll number: Testing a market price for a weak-form efficiency 2. Finance is a critical part of the economy to the extent that when a financial process collapses, nearly all companies shut down, and the economy moves into recession. All phases of the world economy depend upon an orderly financial process. Capital markets provide money for and support to business while individuals get the support from the enterprise. The income taxes back both the federal and local government. 3. Describe the methods for testing weak form efficiency. 4. It does assume that the return rates for the market information ought to be independent; initial rates of return got no effect on the future rates. It also upholds that the market is efficient and reflects...
7 Pages (1750 words) Assignment

Financial economics

.... Chichester: John Wiley & Sons. Ferris, S. P. 2013. Advances in Financial Economics. Emerald Group Publishing Limited. Huang, C., & Litzenberger, R. H. 1988. Foundations for financial economics. Englewood Cliffs, N.J: Prentice Hall. Le, R. S. F., & Werner, J. 2001. Principles of financial economics. Cambridge: Cambridge Univ. Press. Lengwiler, Y. 2004. Microfoundations of financial economics: An introduction to general equilibrium asset pricing. Princeton, N.J: Princeton University Press. Murphy, A. 2003. Practical financial economics: A new science. Westport, Conn. [u.a.: Praeger....
8 Pages (2000 words) Assignment

Financial Economics

... countries and found that, at aggregate level, differences between the leverage of firms are not explained by institutional differences. Also at the international level, Artikis (2007) points out that variables associated with risk, growth, firm size and inventories show different effects across countries. In Europe, Gordon and Li (2005) carry out an analysis of small and medium-sized enterprises. In Europe, it was conclude that variations in the determinants of capital structure between countries are due to the financing requirements of firms, their relationship with banks, taxation and other national economic, social and cultural differences. Methodology Firstly, we compare the economic-financial characteristics of private firms and those...
13 Pages (3250 words) Essay

Financial Markets and Economics

... in the specific purchase can be considered as high). c. The main characteristic of the 90-day bill is that bill payment is free for the first 90 days. After 90 days the bill payment will be free if a specific average daily balance (stated in advance) is maintained. The economic factor that has the most significant influence on the specific financial instrument is the monetary amount which has to be deposited in the bank prior to the beginning of the scheme. More specifically, in order for the above yield to operate in accordance with its role, a significant amount of money have to be deposited in the bank. d. Formula for the conversion: effective annual rate = (1 + i/m)m – 1 Where I is the nominal annual interest rate and m...
12 Pages (3000 words) Assignment

International Business Economics

According to Adam Smith, the absolute advantage would be realised as long as the cost of production differed from between countries, one or both countries would gain by trading. An example to illustrate this is a situation where we have two countries A and B which produce two similar goods X and Y. The figures show labour cost in hours for producing one unit of a good

David Ricardo formulated the theory of comparative advantage and argued that even if one country is more productive in both lines of production it would be still profitable to trade. Country A is more productive in both lines of production but it will still be profitable to trade with country B, this is shown by first stating that country A is more advanta...
6 Pages (1500 words) Assignment

Service Management in Financial Services

 Measurement of quality is the result of the services provided to the customer with a prompt response based on the requirements and expectations. Quality of various processes must be managed so as to provide the customer with consistent, accurate and timely results. These results must be of high quality because various other factors pertaining to a business deal are dependent on them. Quality assures the customer of an appropriate service that includes an error-free transaction, access to accurate data pertaining to the specific schemes and services, transfer of credits, changes concerned with the membership and account details and an undoubted trust that helps in attaining the services time and again.

Financial se...
11 Pages (2750 words) Case Study

Issues in Applied Economics

A major issue then, becomes the convincing obligation by the polity not to abuse its force. Because institutions are planned by people with different bargaining powers and not for sake of effectiveness, some models may be less competent than others and due to path dependency, may continue for a long time, resulting in sluggish economy. The shortage of realistic commitment by the state not to suitable property human rights accounts for the incompetent institutions that have developed in different countries. To humor, such situation provides disincentives to investment in socially profitable enterprises, and generates groups with vested interests in preserving the status quo constraints.

Institutions present the fundament...
6 Pages (1500 words) Term Paper

Accounting & Financial Management

AWB’s operations can be categorized into areas ranging from ‘pool management services’ to ‘harvest financing’, and ‘International commodity management’. Only a company with such a big range of activities and financial outlays can become the benchmark for an equally big company like ‘Woolworth Limited’.

The performance of an entity can be better analyzed through its profitability analyses. The profitability ratios like Gross Profit ratio, Net Profit Margins, Return on assets (ROA), and Return on Equity (ROE). The calculations of such ratios are shown in the attached annexure. The Gross Profit ratio measures the percentage of each pound or dollar of sales remaining aft...
10 Pages (2500 words) Assignment

Financial Management Analysis of Rio Tinto Plc

Taking into consideration that Harmony is the sixth-largest in the world in the gold mining industry, the choice of Harmony God Mining Co. as a benchmark company is the most suitable and justifiable. Moreover, Harmony has also some investment stake in Rio Tinto, and this situation makes the company more suitable for the choice. At places, the benchmark company’s performances have been better than Rio Tinto, and thus Harmony has a competitive edge as well over Rio Tinto.

Profitability ratios like Operating Margin Ratio, Net Margin Ratio, Return on Assets (ROA), and Return on Equity (ROE) are the performance analyzer of any company. Profit Margin ratios show the relationship between profit and sales. Since profit ca...
8 Pages (2000 words) Case Study

Economics or Ethics

Several CEOs in America have in coalition with top managers deviated from the norms of corporate governance and caused immeasurable woes to the stakeholders. Using their power and ego they chased the wealth for personal gains without any concern for the shareholders or other stakeholders of the company. Enron, the world’s largest energy trader at one time, had to file bankruptcy under Chapter 11 when about 5000 workers lost their job (Bhattacharya, 2004). Arthur Anderson, one of the big five auditing firms was charged to have colluded with the management to misappropriate funds and project a picture different from the reality. Income was inflated and then all concerned papers were destroyed. The leadership at Enron was conce...
6 Pages (1500 words) Assignment

Managerial Economics and Business Environment

Once the above said subject matter is clearly sorted out, the next emphasis would be on the concepts like the opportunity costing, incremental principle, marginal principle, discounting principle, the principle of time perspective, and calculation of economic profit as the guidelines to the scope of managerial economics. (Surender. V, 2008).
To start with, we consider a firm for which different processes have to be carried to achieve its objectives of profit maximization (assuming that all the organizations work with the view to maximize profits). If firms from different sectors are identified simultaneously, then the working of the economy as a whole could also be analyzed which in turn is useful in the decision-making proce...
15 Pages (3750 words) Assignment

Emergency Economic Stabilization Act of 2008 and How It Has Impacted the Financial Markets

Though there were objections from various quarters about the huge amounts of tax payer’s money being used in the bailout of huge corporates, the Act has been successful in moving the downturn towards a flat point and now has started slowly moving towards a recovery stage. The various programs under the EESA 2008 have played a significant role in the financial sector, housing mortgage, and banking institutions to save the institutions from complete disaster.

The Emergency Economic Stabilization Act is a huge taxpayer bailout designed to rescue the financial sector. The amount of money to be used is around $700 billion or $2000 per American citizen (Public mark up). Emergency Economic Stabilization Act of 2008 is al...
10 Pages (2500 words) Research Paper

The Effects of Financial Crisis on Supplier Selection Criteria of the Oil and Gas Industry Equipment Market

It is a difficult task to find those vendors who not only have the adequate quality and quantity of the needed raw materials but who also have an attitude of efficiency and display commitment to customer service (Sonmat, 2006). Further, organizations also strive to locate and select vendors who can be depended upon for long term relationship.

The number of factors or attributes desired from the vendor is vast, and different organizations and different industries place different importance on the attributes (Sonmat, 2006). Some of the vendor attributes may gain importance owing to the nature of the industry, for example, in the case of consumer perishables suppliers, like fresh vegetables or fruits, the buying firm would...
20 Pages (5000 words) Literature review

Management of Financial Institutions

The first paper is about International Banking Regulation. For banks that may want to spread across borders, the study gives an explanation of how the various policies and laws may affect its operations. The second paper in the study gives the various restrictions on the development of Pan-European bank mergers. It shows how regional liquidity shocks limit cross-border bank mergers. Thirdly, the study shows the various methods banks use in risk assessment when lending to less developed countries’ sovereign governments. It gives a topology that can help banks efficiently assess risks. An explanation of the multi-nationalization that is given in this paper comes with a model showing how applicable the profit maximization hypot...
8 Pages (2000 words) Literature review
sponsored ads
We use cookies to create the best experience for you. Keep on browsing if you are OK with that, or find out how to manage cookies.

Let us find you another Essay on topic Financial Economics for FREE!

Contact Us