Question

Explain why this statement is true or false: The capital asset pricing model predicts that security with a beta less than zero will provide an expected return higher than the market portfolio return.

Explain why this statement is true or false: According to CAPM, the price of a security will fall if its expected rate of return lies above the security market line.

Answer 1

1.
False

CAPM return=risk free rate+beta*market risk premium

Thus we see that return increases with increase in beta

So, security with beta less than zero will have return lesser than risk free rate and market return is more than risk free rate. Hence, security with a beta less than zero will provide an expected return lower than the market portfolio return

2.
False

If expected return lies above the Security Market Line, it means the security is returning more than what is required. Hence, it is undervalued. So people will start buying this security and hence the price will go up.