Abstract:
Capital asset pricing model (CAPM) has always been an interesting topic in financial economics and has been widely tested and employed to determine the required rate of return of an investment. CAPM is popular for its simplicity and can be applied to a company, industry or a sector. This research has been conducted to empirically test the validity of CAPM on five important sectors of Pakistan i-e banking sector, cement sector, automobiles and parts sector, insurance sector and leasing sector. KSE 100 index has been taken as a proxy for market portfolio. Regression analysis is used to determine the beta for stocks and portfolios and market risk premium. Sector wise portfolios have been developed by taking five companies of one sector in one portfolio. The time period for the study is from Jan 2003 to Dec 2006. The results showed that CAPM is valid on 4 out of 5 sectors, 17 out of 25 stocks and KSE offers a positive reward to its investors for assuming additional risk. Hence, we can say that CAPM is valid. The results show that KSE is not an efficient capital market and many investors can earn above average risk adjusted returns.
