The Lost Capital Asset Pricing Model
46 Pages Posted: 25 Feb 2017 Last revised: 22 Jun 2018
Date Written: June 14, 2018
A flat Securities Market Line is not evidence against the CAPM. In a rational- expectations economy in which markets are inefficient, the CAPM holds but is rejected empirically (Type I Error). There exists an information gap between the empiricist and the average investor who clears the market. The CAPM holds unconditionally for the investor, but appears flat to the empiricist who uses the correct unconditional market proxy. This distortion is empirically substantial and offers a new interpretation of why “Betting Against Beta” works: BAB really bets on true beta. The empiricist retrieves a stronger CAPM on macroeconomic announcement days.
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