Arbitrage Pricing Theory (APT) in Finance
8 Questions
0 Views

Arbitrage Pricing Theory (APT) in Finance

Created by
@TidyMusicalSaw

Podcast Beta

Play an AI-generated podcast conversation about this lesson

Questions and Answers

What is the primary assumption of the Arbitrage Pricing Theory (APT)?

  • An asset's return is dependent on various macroeconomic and security-specific factors. (correct)
  • An asset's return is dependent on the Capital Asset Pricing Model (CAPM).
  • An asset's return is dependent on a single macroeconomic factor.
  • An asset's return is dependent on the risk-free rate only.

    • According to the APT, what are the two things that can explain the expected return on a financial asset?

  • The risk-free rate and the Capital Asset Pricing Model (CAPM).
  • The asset's expected return and the market return.
  • The asset's beta and the market return.
  • Macroeconomic and security-specific influences, and the asset's sensitivity to those influences. (correct)

    • Who developed the Arbitrage Pricing Theory (APT) in 1976?

  • Harry Markowitz
  • John Maynard Keynes
  • Eugene Fama
  • Stephen Ross (correct)

    • What is the formula for the Arbitrage Pricing Theory (APT)?

    <p>E(rj) = rf + bj1RP1 + bj2RP2 + bj3RP3 + bj4RP4 +...+ bjnRPn</p> Signup and view all the answers

    What are some examples of security-specific influences in the APT?

    <p>Inflation, production measures, and market indices</p> Signup and view all the answers

    What is the purpose of analyzing the relationship between an asset and its common risk factors in the APT?

    <p>To predict the returns of a portfolio and the returns of specific assets.</p> Signup and view all the answers

    What is the APT an alternative to?

    <p>The Capital Asset Pricing Model (CAPM)</p> Signup and view all the answers

    What does 'bj' represent in the APT formula?

    <p>The sensitivity of the asset's return to the particular factor</p> Signup and view all the answers

    Study Notes

    Arbitrage Pricing Theory (APT)

    • APT is a method for estimating the price of an asset, assuming an asset's return is dependent on various factors.
    • The theory was first created by Stephen Ross in 1976 to examine the influence of macroeconomic factors.

    Factors Affecting Asset Return

    • Macroeconomic factors
    • Market factors
    • Security–specific factors

    APT Formula

    • The APT formula is an alternative to the Capital Asset Pricing Model (CAPM).
    • The formula is: E(rj) = rf + bj1RP1 + bj2RP2 + bj3RP3 + bj4RP4 +...+ bjnRPn
    • Where:
      • E(rj) = the asset's expected rate of return
      • rf = the risk-free rate
      • bj = the sensitivity of the asset's return to the particular factor
      • RP = the risk premium associated with the particular factor

    Security-Specific Influences

    • There are an infinite number of security-specific influences for any given security, including:
      • Inflation
      • Production measures
      • Investor confidence
      • Exchange rates
      • Market indices
      • Changes in interest rates
    • The analyst must decide which influences are relevant to the asset being analyzed.

    Pricing

    • Once the expected rate of return of an asset is derived from the APT theory, the correct price of the asset can be determined.
    • APT can be applied to portfolios as well as individual securities.
    • A portfolio can have exposure and sensitivities to certain kinds of risk.

    Studying That Suits You

    Use AI to generate personalized quizzes and flashcards to suit your learning preferences.

    Quiz Team

    Description

    Learn about the Arbitrage Pricing Theory (APT), a method for estimating asset prices, and its key factors, including macroeconomic, market, and security-specific influences.

    More Like This

    Use Quizgecko on...
    Browser
    Open
    Browser
    Browser