FREE ESSAY ON FINANCE

FINANCE

Capital Asset Pricing Model
The theory of the Capital Asset Pricing Model - CAPM is pretty basic. This theory though
it seems very small is a very important part of the business world. The expected return
on a long futures position depends on the Beta of that individual futures contract. If
the Beta is greater than 0, the futures price should rise over time. If the Beta is equal
to 0, the futures price should remain the same over time. If the Beta is less than 0, the
futures price should decline over time. 
The Capital Asset Pricing Model - CAPM shows risk in a particular asset. With the Capital
Asset Pricing Model - CAPM, traders can avoid much of the risk they receive because this
broadens their chances. Therefore, only unavoidable risk should or will be compensated.
Nevertheless, even after a trader expands his portfolio, some risk will remain. Because
some risk is associated with the market as a whole, this risk cannot be countered through
expanding. In other words, no matter how hard a trader tries to avoid risk, some risk
will remain. This is just a fact of a matter and will not and cannot be changed.
DeNarius Thomas
Business Finance
October 30, 2000
Beta Coefficient
The Beta measures the risk associated with one particular asset in relation to the
overall market. Beta also measures how much a stock tends to change in price relative to
the market as a whole, based on the last 60 months of market. Therefore, with a Beta of
zero, the return should be zero. A Beta above zero should bring a positive return to a
long position. And a Beta below zero should bring a negative return on a long position.
For example, a beta coefficient of one would mean that the market and the given stock
tend to move the same. So, a five percent move in the market should produce a five
percent move in the stock. A beta coefficient of two will fluctuate twice as much as the
market. 
Beta is used is used in many different modes. One of the modes is low relative mode. This
is used to find stocks that fluctuate less than the market. But, if you think that the
market is moving up and down and you want to find stocks that will move up faster than
the market, you would use the high relative mode. Absolute mode is another mode used by
Beta. This mode is used when you want to find stocks that move. If the stocks are faster
than the market you use 1.5 as the minimum and 10 as the maximum. If they are slower than
the market than you would use 0 as the minimum and .50 as the maximum. 
DeNarius Thomas
Business Finance
October 30, 2000
Market Risk and Diversifiable Risk
Market Risk descends from market-wide factors and these factors affect all
businesses and the economy as whole. These factors include things such as
interest rates, inflation rates, currency exchange rates, unemployment rates. Not
only are these factors but another factor is the risk of natural disasters such as
earthquakes, floods, fire, etc. It is generally not possible to diversify away from this
risk. The only possible exception to this statement is where an investor chooses to
reposition from a domestic market to an international market. Risks previously
thought of as Market Risks may now become Specific Risks. 
For example, a Japanese investor who only operates on the Tokyo markets may
think of Market Risks in a Japanese context. By moving to world markets, some
risks, previously thought of as Market Risks now become Specific Risks, in other
words specific to the Japanese markets and, therefore becomes diversifiable. The
difference in Market risk and Specific risk (diversifiable risk) is that Specific risk
only
affects specific businesses not general ones as Market risk does. Specific risks
apply to an individual company, a company with a particular industrial sector, and
companies in a specific geographical of country region. They can be managed by
using the Modern Portfolio Theory. This tells us that by combining assets whose
returns are not associated with one another, we can determine combinations of
assets that provide the least risk for each possible expected return.