The CAPM expected rate of return is equal to the
A)time premium plus the default premium.
B)default premium plus the expected risk premium.
C)time premium plus the expected risk premium.
D)time premium plus the default premium plus the expected risk premium.

Question

Quizplus · Accepted Answer

According to the CAPM, the expected rate of return is equal to the risk-free rate plus the expected market risk premium. The expected market risk premium is the difference between the expected return on the market portfolio and the risk-free rate. The sum of these two components is known as the expected risk premium, which is added to the risk-free rate to arrive at the expected rate of return. The time premium and default premium are not included in the CAPM formula for expected rate of return. The CAPM expected rate of return is equal to the time premium (compensation for the time value of money) plus the expected risk premium (compensation for bearing systematic risk). There is no default premium included in the CAPM formula.

The CAPM Expected Rate of Return Is Equal to the