What does CAPM stand for in finance?

The correct answer is the Capital Asset Pricing Model, commonly abbreviated as CAPM. This financial model is fundamental in the field of finance and is used to determine the expected return on an investment based on its risk relative to the overall market.

The CAPM formula illustrates the relationship between the expected return of an asset and its systematic risk, represented by beta. This model incorporates the risk-free rate, which represents the return on an investment perceived to be free of risk, and the market risk premium, which is the additional return expected from holding a risky market portfolio over the risk-free asset.

By effectively quantifying risk and the expected return, CAPM aids investors in making informed decisions regarding asset allocation and portfolio management. Moreover, it is instrumental in corporate finance for assessing the cost of equity and evaluating investment opportunities.

Understanding this concept is essential for those entering the finance industry, particularly in roles related to equity capital markets, where assessing risk and anticipated returns is a vital aspect of the decision-making process.