Wow, okay, so whipping up formulas in HTML can get quite complicated. I was doing fine until I tried to create two dimensional fractions. I guess the way to go, is to get away from code by creating an image of the formula, and then to source the image into your doc. Or if you are a pro with css, you can use style sheets to create the fractions........either way, this is about finance, not html...nor am I about to spend all my time on this (although the challenge made it entertaining).

So we turn to commentary (known as, my 2 cents):

Is CAPM worth learning? yes and no. Folks at firms like Barra and RiskMetrics will put any pure CAPM derived cost of equity to shame. At the same time, none of these firms will truly capture the future risk of stock. The trick is how to apply CAPM in a practical, value added way...

The best example I have seen (warning: I have not been around the investing block) of applying these risk management tools in an active management context is Richard C. Grinold and Ronald N. Kahn's book fittingly titled, Active Portfolio Management. What Grinold and Kahn do is modify our beloved CAPM to allow for the premise that markets are not efficient. I could write forever on these topics, although I'd rather hear what my informed readers have to say (anyone out there??:) (side note: I would probably add more value to myself by finishing that book over writing this entry...)

σ²= variance
σ= standard deviation
ρ= correlation coefficient
β= beta
α= alpha
r_f= risk free rate

CAPM

r_i = r_f + α + β_i(r_m - r_f) + ε_i

Systematic and Specific Risk

σ_i² = σ_ε² + β_i² σ_m²

Portfolio Variance

σ_p² = w_a² σ_a² + w_b² σ_b² + 2w_aw_bρ_abσ_aσ_b

portfolio variance = (squared weighting of stock a, times, variance of stock a) + (squared weighting of stock b, times, variance of stock b) + (2, times weighting stock a, times weighting of stock b, times correlation coefficient, times the stnd deviation stock a, times the stnd dev stock b)

Enough formulas for now....

Mr. Risky Returns