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Arbitrage Arbitrage Pricing Theory (APT) APT Pricing Theory and Multi-factor ModelsMulti-factor models

In: Capital Market Finance

Author

Listed:
  • Patrice Poncet

    (ESSEC Business School)

  • Roland Portait

    (ESSEC Business School)

Abstract

r The first motivation behind the Arbitrage Pricing Theory (APT) is to free the model from the restrictive assumptions leading to the MV paradigm. A second motivation is to answer the criticism of the CAPM concerning the unobservable, and therefore not measurable, market portfolio, a feature that makes any robust empirical test of the model problematic. A third motivation is to enrich the model by allowing explicit consideration of several risk factors common to most securities, thus inducing various non-diversifiable risks that justify several components in the risk premium. Since the APT is based on a multi-factor model, Sect. 23.1 presents multi-factor models. Section 23.2 derives and interprets the APT as a model for assessing risk premia. Section 23.3 addresses the issue of its practical implementation and examines the most important of its applications. Section 23.4 proposes a comparison of CAPM and APT, and then of the respective merits of multi-factor models.

Suggested Citation

  • Patrice Poncet & Roland Portait, 2022. "Arbitrage Arbitrage Pricing Theory (APT) APT Pricing Theory and Multi-factor ModelsMulti-factor models," Springer Texts in Business and Economics, in: Capital Market Finance, chapter 23, pages 963-990, Springer.
    • Handle: RePEc:spr:sptchp:978-3-030-84600-8_23
    DOI: 10.1007/978-3-030-84600-8_23
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