DefinePK

Abstract

According to the theory of risk, agents’ perceived welfare level is generally reduced when they are exposed to a more risky situation unless they are compensated for the risk. This compensation is known as risk premium. The Capital Asset Pricing Model (CAPM) proposes that the return on a risky asset over and above the return on a safe asset is a measure of risk premium. Therefore the rate of return increases with an increase in risk. This proposition has an important implication for the financial market. For example, if the excess holding period return on an asset is found to be unrelated to risk then the observed investment in the asset indicates that either the investors are risk neutral or they do not have complete information.