How to Calculate Capm Risk Parameters

In order to find out CAPM betas for your firm, you need to run a simple regression. You can do this in any econometric software or simply using excel following the instructions. If you have any questions, please come to see me during my office hours or send me an email.

Preparation:

1. Choose companies and corresponding market indexes (for example TESCO and FTSE100,  as TESCO belongs to FTSE100).

Sources: Yahoo Finance UK, or any other sources such as DataStream, Bloomberg databases in the Financial Labs on the 1st floor in the Library, London Stock Exchange website; Bloomberg websites.  

1. Select share prices and index price.

        Decide on an estimation period

• Use periods ranging from 3 to 5 years for the regression
• Longer estimation period provides more data, but firms change.
• Shorter periods can be affected more easily by significant firm-specific  event that occurred during the period

Decide on a return interval - daily, weekly, monthly

• Shorter intervals yield more observations, but suffer from more noise.
• Noise is created by stocks not trading and biases all betas towards one.

1.  Estimate returns (including dividends) on stock

• Return = [Price at time (t) – Price at time (t-1)+ Dividend]/ Price at time (t-1) 
• Included dividends only in ex-dividend month

Open your data set.

Before you can do your assignment, you need the Analysis Toolpack installed in Excel.

            Click the Office button on the Top left menu,

Select and click Excel Options

On the Excel Options window, Click on Add-ins

        Select Manage Add-ins    and Go       

The Add-ins window appear, Select Analysis Toolpak, click OK

         You can now use the data analysis functions in Excel,

1. Calculate stock return

[pic 1]

If you have not collected dividend this time, you can do it later.

1. Calculate market return

[pic 2]

1. Run the regression

Select regression from data analysis.

Click OK

Input Y range: select Rj data area

Input X range: select Rm data area

Select label if you included label

Select New Worksheet apply

Click OK

Read the output

Your intercept, and beta are under coefficients column

You can choose UK government bond (30 years) as your long term risk free rate. UK government bond rates can be found in Financial Times www.ft.com or Bloomberg www.bloomberg.com.

Historical risk premium for the UK is about 5.8%.

[The following information is for MSc Financial Management students only.