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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
for z < 1
t Fixed Income VII: R. J. Hawkins 1+g
, we have
1 + rS V0 = 1+g
1+rS 1− D0 (1 + g )
(rS − g )
(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 :
(rS − g ) ⇒ rS = D
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.
risk σport is not the mean risk but
N N 2
σport = wi wj...
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- Fall '08