Lecture Note Asset Prices CAPM CAPM and Beta Beta Basic Framework Risk Aversion and Asset Prices Asset Prices Econ 497F Lecture Barry W Ickes The Pennsylvania State University Spring 2007 Introduction Lecture Note Asset Prices CAPM CAPM and Beta Beta Basic Framework Risk Aversion and Asset Prices The CAPM is only a small step from the Tobin Separation theorem A number of people came up with the CAPM around the same time in the mid 1960 s William Sharpe of Stanford received the Nobel Prize in 1990 for his contribution John Lintner of Harvard died before the prize was awarded Some people also cite Jan Mossin and Jack Treynor Fischer Black extended the model in the early 1970 s Introduction Lecture Note Asset Prices CAPM CAPM and Beta Beta Basic Framework Risk Aversion and Asset Prices The CAPM is only a small step from the Tobin Separation theorem A number of people came up with the CAPM around the same time in the mid 1960 s William Sharpe of Stanford received the Nobel Prize in 1990 for his contribution John Lintner of Harvard died before the prize was awarded Some people also cite Jan Mossin and Jack Treynor Fischer Black extended the model in the early 1970 s Assumptions Introduction Lecture Note Asset Prices CAPM CAPM and Beta Beta Basic Framework Risk Aversion and Asset Prices The CAPM is only a small step from the Tobin Separation theorem A number of people came up with the CAPM around the same time in the mid 1960 s William Sharpe of Stanford received the Nobel Prize in 1990 for his contribution John Lintner of Harvard died before the prize was awarded Some people also cite Jan Mossin and Jack Treynor Fischer Black extended the model in the early 1970 s Assumptions i All investors take asset prices as given ii All investors care about returns measured over one period iii There are no nontraded assets iv Investors can borrow or lend at rf this assumption can be relaxed v Investors pay no taxes or transactions costs Introduction Lecture Note Asset Prices CAPM CAPM and Beta Beta Basic Framework Risk Aversion and Asset Prices The CAPM is only a small step from the Tobin Separation theorem A number of people came up with the CAPM around the same time in the mid 1960 s William Sharpe of Stanford received the Nobel Prize in 1990 for his contribution John Lintner of Harvard died before the prize was awarded Some people also cite Jan Mossin and Jack Treynor Fischer Black extended the model in the early 1970 s Assumptions i All investors take asset prices as given ii All investors care about returns measured over one period iii There are no nontraded assets iv Investors can borrow or lend at rf this assumption can be relaxed v Investors pay no taxes or transactions costs vi All investors are mean variance optimizers vii All investors perceive the same means variances and covariances for returns Introduction Lecture Note Asset Prices CAPM CAPM and Beta Beta Basic Framework Risk Aversion and Asset Prices Given these assumptions all investors look at the same mean standard deviation diagram all investors hold a mean variance e cient portfolio Introduction Lecture Note Asset Prices CAPM CAPM and Beta Beta Basic Framework Risk Aversion and Asset Prices Given these assumptions all investors look at the same mean standard deviation diagram all investors hold a mean variance e cient portfolio Since all minimum variance portfolios combine the riskless asset with a xed portfolio of risky assets all investors hold risky assets in the same proportions to one another mutual fund theorem Introduction Lecture Note Asset Prices CAPM CAPM and Beta Beta Basic Framework Risk Aversion and Asset Prices Given these assumptions all investors look at the same mean standard deviation diagram all investors hold a mean variance e cient portfolio Since all minimum variance portfolios combine the riskless asset with a xed portfolio of risky assets all investors hold risky assets in the same proportions to one another mutual fund theorem But demand must equal supply in asset markets so all investors must hold the market portfolio Introduction Lecture Note Asset Prices CAPM CAPM and Beta Beta Basic Framework Risk Aversion and Asset Prices Given these assumptions all investors look at the same mean standard deviation diagram all investors hold a mean variance e cient portfolio Since all minimum variance portfolios combine the riskless asset with a xed portfolio of risky assets all investors hold risky assets in the same proportions to one another mutual fund theorem But demand must equal supply in asset markets so all investors must hold the market portfolio Thus the market portfolio is mean variance e cient Introduction Lecture Note Asset Prices CAPM CAPM and Beta Beta Basic Framework Risk Aversion and Asset Prices Given these assumptions all investors look at the same mean standard deviation diagram all investors hold a mean variance e cient portfolio Since all minimum variance portfolios combine the riskless asset with a xed portfolio of risky assets all investors hold risky assets in the same proportions to one another mutual fund theorem But demand must equal supply in asset markets so all investors must hold the market portfolio Thus the market portfolio is mean variance e cient Thus if the CAPM holds there is no need to perform mean variance analysis Introduction Lecture Note Asset Prices CAPM CAPM and Beta Beta Basic Framework Risk Aversion and Asset Prices Given these assumptions all investors look at the same mean standard deviation diagram all investors hold a mean variance e cient portfolio Since all minimum variance portfolios combine the riskless asset with a xed portfolio of risky assets all investors hold risky assets in the same proportions to one another mutual fund theorem But demand must equal supply in asset markets so all investors must hold the market portfolio Thus the market portfolio is mean variance e cient Thus if the CAPM holds there is no need to perform mean variance analysis An investor can free ride on the analyses of other investors and use the market portfolio as the optimal mutual fund of risky assets Proof Lecture Note Asset Prices CAPM CAPM and Beta Beta Basic Framework Risk Aversion and Asset Prices Here is a simple graphical proof quite neat based on the notion of equilibrium Proof Lecture Note Asset Prices CAPM CAPM and Beta Beta Basic Framework Risk Aversion and Asset Prices Here is a simple graphical proof quite neat based on the notion of equilibrium We treat all risky