FINE 441 Lecture Notes - Lecture 1: Capital Asset Pricing Model, Risk Premium, Asset Allocation

• School: McGill University
• Department: Finance
• Course: FINE 441
• Professor: Mohammed Chaudhury

Document Summary

Uncertainty about the future price of a stock and dividend income. To quantify our beliefs about the future state of the economy and stock market, we usually assign probabilities to each scenario that we might have for the economy and stock market. You have a portfolio invested in the stock market. The return of your stock portfolio will change depending on the state of the economy prevailing one year from today. You come up with the following three scenarios: Two main steps in the process of constructing a portfolio: Selection of risky assets such as shares and bonds. Decision of how much to invest in the risky portfolio against the risk-free asset. We need to know the expected return of the portfolio and the degree of risk to decide how much to allocate between the risk-free asset and the risky portfolio.