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Capital Asset Pricing Model (CAPM) is a single factor model to calculate the linear relationship between

the systematic risk and expected return of the assets, particularly stocks. The formula of CAPM consists
of the risk-free rate, the expected return of the market and the Beta of investment. In general, the Beta
of investment measures the theoretical volatility in relation to the overall market, Beta is greater than
one if a stock is riskier than the market, a Beta of less than one assumes that it reduces the risk of a
portfolio. Because of its simplicity, CAPM has been widely used in the financial industry.

In the other hand, the Arbitrage Pricing Theory (APT) is a multi-factor asset pricing model which
illustrated the linear relationship between the expected return and a number of macroeconomic
variables. The formula of APT is similar to CAPM, with the Beta of investment is replaced by the
sensitivity of the asset price to macroeconomic factors.

The key differences between CAPM and APT are:

• CAPM is a single factor model and APT use multi macroeconomic factor to describe the linear
relationship between the market risks and the expected rate of return.
• CAPM assumes the market is perfectly efficient, APT by its name assuming that market will be
sometimes mispriced the securities which open the arbitrage opportunity.

In my opinion, I would choose the CAPM model over the APT model for my investment evaluation, the
reason is:

First, CAPM has a simple formula which allows the individual investor which limited research resources
able to calculate the theoretically expected rate of return. In the other hand, APT requires deep research
in various economic variables in order to provide an accurate outcome.

Second, APT claims to provide a more precise prediction compare to CAPM by using multi-factor.
However, APT does not explain what are those factors could be, as a result, the user has to analytically
determine the factors. Which requires a certain amount of time and resource, as well as the different
outcome of each model, depending on the factors that the user chose.

Last but not least, investment is simply a game where we try to get a higher return than the money we
spend on it. Considering the complexity of APT and added value it contributes, I would say CAPM will
still be the first choice of many investors and institution.

References

Essays, UK. (November 2018). Comparison of CAPM Model and APM. Retrieved from
https://www.ukessays.com/essays/economics/comparison-capm-model-apm-3479.php?vref=1

Essays, UK. (November 2018). Comparison of CAPM and APT Theories. Retrieved from
https://www.ukessays.com/dissertation/literature-review/finance/capital-asset-pricing-and-arbitrage-
pricing-theory.php?vref=1

Kenton, W. (2019, June 04). Capital Asset Pricing Model (CAPM). Retrieved from

https://www.investopedia.com/terms/c/capm.asp
Nickolas, S. (2019, May 09). CAPM vs. Arbitrage Pricing Theory: What's the Difference? Retrieved from

https://www.investopedia.com/articles/markets/080916/capm-vs-arbitrage-pricing-theory-how-they-

differ.asp

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