THE CAPM AND INDEX MODELS

 
Estimating the Index Model
Using historical data on T-bills, S&P 500 and individual securities
Regress risk premiums for individual stocks against the risk premiums for the S&P 500
Slope is the beta for the individual stock

Table 7.1 Monthly Return Statistics for T-bills, S&P 500 and General Motors

Figure 7.3 Cumulative Returns for T-bills, S&P 500 and GM Stock

 Figure 7.4 Characteristic Line for GM

Table 7.2 Security Characteristic Line for GM: Summary Output

 GM Regression:  What We Can Learn

GM is a cyclical stock
Required Return:

rf + b(rm - rf) = 2.75 + 1.24x5.5 = 9.57%

Next compute betas of other firms in the industry

Predicting Betas

The beta from the regression equation is an estimate based on past history
Betas exhibit a statistical property
Regression toward the mean