CAPM Calculator - Capital Asset Pricing Model
The Capital Asset Pricing Model (CAPM) tells you the return an investor should demand for taking on the systematic risk of an asset. Enter a risk-free rate, market return, and beta to find the expected return, or switch the solve mode to back into any other variable. Results update instantly and include the market risk premium, Security Market Line chart, and a step-by-step breakdown of the calculation.
Formula
Worked example
An asset has a beta of 1.2, the 10-year Treasury yield (risk-free rate) is 4.5%, and the expected market return is 10%. Market risk premium = 10% - 4.5% = 5.5%. Asset risk premium = 1.2 x 5.5% = 6.6%. Expected return = 4.5% + 6.6% = 11.1%.
What is the Capital Asset Pricing Model?
The Capital Asset Pricing Model (CAPM), developed independently by William Sharpe, John Lintner, and Jan Mossin in the 1960s building on Harry Markowitz's portfolio theory, provides a framework for pricing the expected return on a risky asset. Its core insight is that investors should only be compensated for systematic risk (the portion that cannot be diversified away) rather than for total risk. Unsystematic or company-specific risk can be eliminated by holding a diversified portfolio, so the market does not reward it. CAPM has become foundational in corporate finance, used everywhere from estimating the cost of equity in a discounted cash flow model to setting hurdle rates for capital budgeting decisions.
Understanding the CAPM formula
The formula is E(r) = Rf + Beta x (Rm - Rf). The risk-free rate (Rf) anchors the model: it is the return available with essentially no default risk, usually the yield on 10-year US Treasury bonds. The market risk premium (Rm - Rf) is the excess return investors historically demand for holding the broad market instead of the risk-free asset, typically estimated between 4% and 7% depending on the time period and methodology. Beta scales that premium up or down for the specific asset. A beta of 1.5 means the asset is expected to move 1.5 times as much as the market, so investors require a proportionally larger premium. The resulting expected return is also called the required return or cost of equity.
Four ways to use this calculator
This calculator can solve for any one of the four CAPM variables. The default mode finds the expected return given the risk-free rate, market return, and beta. Switching to solve for beta back-calculates the implied systematic risk given a known expected return and market conditions, useful when you already know a hurdle rate and want to find what beta justifies it. Solving for the risk-free rate reveals what baseline return is implied by the model. Solving for the market return finds what broad market performance the model assumes if the asset's expected return and beta are fixed. All four modes are algebraically exact rearrangements of the single CAPM equation.
CAPM limitations and real-world considerations
CAPM rests on several assumptions that do not hold perfectly in practice: investors are rational mean-variance optimizers, markets are frictionless, all investors have the same one-period horizon and the same information, and beta is stable over time. In reality, transaction costs exist, information is asymmetric, betas change, and expected returns are influenced by factors beyond market beta - including size, value, profitability, and momentum, as documented by Fama and French. CAPM also cannot account for liquidity risk, tail risk, or behavioral biases. Despite these limitations, CAPM remains the most widely taught and used model because of its simplicity and directness. It is best treated as a first approximation that should be complemented by multi-factor models and qualitative judgment in any serious valuation context.
Beta interpretation guide
| Beta range | Description | Typical examples | Risk level |
|---|---|---|---|
| < 0 | Inverse correlation to market | Inverse ETFs, gold in some periods | Hedging |
| 0 | No market correlation | Cash, money-market funds | Very low |
| 0.1 - 0.5 | Much less volatile than market | Utilities, consumer staples | Low |
| 0.5 - 0.9 | Less volatile than market | Healthcare, dividend stocks | Below average |
| 1.0 | Moves with the market | Index funds, broad ETFs | Average |
| 1.1 - 1.5 | Moderately more volatile | Large-cap growth stocks | Above average |
| 1.5 - 2.5 | Much more volatile than market | Small-cap growth, tech | High |
| > 2.5 | Highly leveraged to market swings | Speculative stocks, leveraged ETFs | Very high |
Beta measures how much an asset moves relative to the broad market. A beta above 1 amplifies market swings; below 1 dampens them.
Frequently asked questions
What is a good beta for a stock?
There is no universally good or bad beta; it depends on the investor's goals. Conservative or income-focused investors typically prefer beta below 1, which means the stock is less volatile than the market. Growth-oriented investors may seek higher-beta stocks that amplify market upswings. What matters is whether the beta-implied expected return adequately compensates for the level of systematic risk taken on relative to alternatives.
What risk-free rate should I use in CAPM?
Most practitioners use the current yield on 10-year US Treasury bonds as the risk-free rate for US-dollar-denominated analyses. Some use the 30-year Treasury for long-duration valuation projects. The key is to match the tenor of the risk-free rate to the investment horizon. For non-US assets, use a government bond of equivalent credit quality in the relevant currency.
How is market return estimated?
The expected market return is most commonly estimated as the long-run historical return of a broad index such as the S&P 500, which has averaged roughly 10% per year in nominal terms over the past century. Alternatively, some analysts use a forward-looking estimate by adding an equity risk premium (typically 4% to 7%) to the current risk-free rate. The choice of method can meaningfully affect CAPM outputs.
Can CAPM be used to value an entire company?
CAPM is used to estimate the cost of equity, which feeds into the discount rate for a discounted cash flow (DCF) valuation. In a DCF, the cost of equity from CAPM is combined with the cost of debt (weighted by capital structure) to produce the weighted average cost of capital (WACC), which is then used to discount free cash flows. So CAPM is a key building block in valuation, though not a standalone valuation model.
Why is my CAPM return higher than the current stock price implies?
If the CAPM required return is higher than the return implied by current price and expected dividends or cash flows, the asset may be overvalued relative to its systematic risk. Conversely, if the implied return exceeds the CAPM rate, the asset may be undervalued. This gap between CAPM and actual implied returns is often called alpha in portfolio management.
What is the Security Market Line?
The Security Market Line (SML) is the graphical representation of CAPM. It plots expected return on the vertical axis against beta on the horizontal axis. Any asset that plots exactly on the SML is fairly priced according to CAPM. Assets above the line offer more return than their systematic risk warrants (potentially undervalued), and assets below offer less return than their risk warrants (potentially overvalued).