Factor Models and CAPM

This lecture covers the Capital Asset Pricing Model (CAPM), systematic risk, application of CAPM, zero-beta CAPM, leverage CAPM, liquidity CAPM, estimating betas, empirical evidence on annualized returns versus beta, short-sale constraints, and optimal portfolio choice with leverage constraints. It also discusses alpha with respect to the market, the Security Characteristic Line, and exogenous transaction costs. The instructor compares the Arbitrage Pricing Theory (APT) with CAPM, explaining the APT formula, Sharpe's diagonal one-factor model, and the APT with residual risk. The lecture concludes with a discussion on the size and value anomalies, Fama and French's research on firm characteristics predicting returns, and the performance of value-weight portfolios formed on book-to-market ratio.