J hawkins 1g we have 1 rs v0 1g 1rs 1g 1rs 1 d0

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Unformatted text preview: = D0 D0 (1 + g )t (1 + rS )t ∞ t =1 1+g 1 + rS So with z = t V0 = D0 = Recall that ∞ t =1 or z z= for z < 1 1−z t Fixed Income VII: R. J. Hawkins 1+g , we have 1 + rS V0 = 1+g 1+rS 1+g 1+rS 1− D0 (1 + g ) (rS − g ) D1 (rS − g ) Econ 136: Financial Economics 6/ 11 The Capital Asset Pricing Model Historical Background Expected-return paradigm before CAPM There was a cost of debt capital. assumed to be the interest rate on the debt. There was a cost of equity capital. backed out from current share price P = V0 : P= D (rS − g ) ⇒ rS = D +g P CAPM would show that there need not be any connection between the cost of capital and future growth rates of cash flows. Fixed Income VII: R. J. Hawkins Econ 136: Financial Economics 10/ 11 The Capital Asset Pricing Model Mean-Variance Portfolio Choice Portfolio implications of these assumptions are that portfolio 1 return E (rport ) is the mean return N E (rport ) = N wi E (ri ) where i =1 wi = 1 i =1 and wi is the weight of asset i in the portfolio. 2 2 risk σport is not the mean risk but N N 2 σport = wi wj...
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