Module II· Cost of Equity & CAPMBasic
Question
What is the CAPM formula?
Answer
Formula
```
Cost of Equity = Rf + β × ERP
```
Components
- Rf: risk-free rate (10-year government bond)
- β: beta (volatility relative to the market)
- ERP: equity risk premium
Extended
+ country risk premium (CRP) + size premium (SP) for smaller / EM targets.
Theory
A single-factor model — only market risk matters (unsystematic risk is diversifiable). The practical IB standard, even if the theory is debatable.