What Is Capital asset pricing model?

The Capital Asset Pricing Model (CAPM) is the foundational asset-pricing theory stating that an asset’s expected return is determined solely by its beta — its sensitivity to the overall market. Beta of 1 moves with the market; below 1 is less volatile, above 1 more volatile. Under CAPM the only compensated risk is market risk, and any return not explained by beta is called alpha.

Decades of research document violations of CAPM that motivate factor investing: the size and value premia, the momentum effect, and the low-beta anomaly behind BAB all earn returns CAPM cannot explain. Beta in CAPM is also what gets neutralised when a factor is beta-hedged.

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