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CMA Intermediate · Financial Management and Business Data Analytics · Risk and Return

Arbitrage Pricing Theory (APT), as an alternative to CAPM, explains the expected return of a security primarily as:

APT states that expected return equals the risk-free rate plus factor risk premiums, each multiplied by the security's sensitivity to that macroeconomic factor. It differs from CAPM, which relies on a single market beta, because APT allows several systematic factors to drive returns.

  1. AA risk-free rate plus a premium for each of several systematic macroeconomic factors, weighted by the security's sensitivity to each factorCorrect
  2. BA risk-free rate plus a single premium based on the security's covariance with the market portfolio
  3. CThe weighted average of the dividend yield and the growth rate of dividends
  4. DThe standard deviation of the security divided by its mean return

Explanation

APT is a multi-factor model: E(R) = Rf + b1(F1 premium) + b2(F2 premium) + ... Each factor has a sensitivity (beta). Option B describes the single-factor CAPM, which uses only market beta.

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