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Nvidia
Expected Return15.3%
Risk-Free Rate
4.7%
Beta2.14
Stock Risk Premium10.7%
Capital Asset Pricing Model (CAPM)
For informational and educational purposes only • Not investment advice.
Compare Expected Returns across Companies
Apple
Expected Return10.5%
Risk-Free Rate
4.7%
Beta1.17
Stock Risk Premium5.8%
Alphabet
Expected Return10.9%
Risk-Free Rate
4.7%
Beta1.25
Stock Risk Premium6.2%
Microsoft
Expected Return10.3%
Risk-Free Rate
4.7%
Beta1.13
Stock Risk Premium5.6%
Equity Risk Premium
%
Range: 0–20%
How CAPM Works
The Capital Asset Pricing Model (CAPM) estimates how much return investors require before they are willing to invest in a company's stock. Companies with higher market risk must offer a higher return to attract investors. From an investor's perspective, this required return is the stock's Expected Return. In business valuation, the same return is used as the company's Cost of Equity.
CAPM assumes that investors hold the fully diversified market portfolio. This means that company-specific risks can be diversified away and therefore do not affect the return investors require. Instead, investors are rewarded only for market risk—the risk that affects the overall market. Beta measures how much market risk a stock has, while the Equity Risk Premium determines how much additional return investors require for taking that risk.
CAPM Formula
where Rf is the Risk-Free Rate, β is Beta, and (Rm − Rf) is the Equity Risk Premium.
Key Model Assumptions
• Investors are assumed to hold a fully diversified market portfolio.
• Company-specific risk can be diversified away, so investors are compensated only for systematic market risk.
• Beta is used to measure the stock's exposure to systematic market risk.
• The Risk-Free Rate represents the return available without taking equity market risk.
• The Risk-Free Rate is based on the U.S. 10-Year Treasury yield published by the Federal Reserve Board.
• The Equity Risk Premium represents the additional return investors require for bearing market risk.
• Beta and market assumptions may change over time, so the estimated Expected Return may not remain representative of future required returns.
• Company-specific risk can be diversified away, so investors are compensated only for systematic market risk.
• Beta is used to measure the stock's exposure to systematic market risk.
• The Risk-Free Rate represents the return available without taking equity market risk.
• The Risk-Free Rate is based on the U.S. 10-Year Treasury yield published by the Federal Reserve Board.
• The Equity Risk Premium represents the additional return investors require for bearing market risk.
• Beta and market assumptions may change over time, so the estimated Expected Return may not remain representative of future required returns.
Step 1 — Measure Market Risk (β)
β = Covariance(Stock, Market) / Variance(Market)
Beta measures how sensitive a stock's historical returns have been to movements in the overall market.
CAPM assumes that investors hold the fully diversified market portfolio. This means company-specific risks can be diversified away and therefore do not affect the return investors require. Instead, investors are rewarded only for market risk—the risk that affects the overall market. Beta measures how sensitive a company's stock has historically been to movements in the overall market. A beta above 1 indicates that the stock has historically moved more than the market, while a beta below 1 indicates lower historical sensitivity.
Step 2 — Apply the CAPM Formula
Expected Return (Cost of Equity) = Risk-Free Rate + β × Equity Risk Premium
Start with the Risk-Free Rate. Next, calculate the Stock Risk Premium by multiplying beta by the Equity Risk Premium. Adding the Stock Risk Premium to the Risk-Free Rate gives the Expected Return, also known as the company's Cost of Equity.