Security Analysis using CAPM Model

Bachelor of Science Sharan Sundareswaran, BE (mechanical)

Master's thesis

Abstract:

The main aim of the thesis is to pursue the practical application of the CAPM Model by comparing the actual risk and return with the estimated risk and return. It also analyses the performance of companies of selected index and aid the investors in making the investment decision. The following research questions are raised in this study: 1. What is the most profitable NIFTY50 based on CAPM model? 2. What is the actual and estimated risk and return of the investment of the top 50 Indian Companies? 3. What are the undervalued and overvalued securities? Methodology:Methodology for the literature overview is based on data collection from the relevant legal framework, specialized publications and other written or online sources. The practical part of the thesis will be based on the information gained from the published annual reports of the chosen company. CAPM Model will be used to assess the performance of the companies and to prepare the practical part of the thesis. The methods of analysis, synthesis, comparison, and deduction will be used to formulate the conclusions of the thesis. The stock prices of selected companies will be analyzed for assessment of performance of securities. The selected company for analysis includes all the companies of Nifty. The analysis covers a period of 10 years, i.e., starting from 1st April 2012 to 31st March 2022. The data of stock prices will be obtained from the website of NSE. The definition of the stock market and stock exchange, the information about stock market industry as well as the information about various portfolio theories are included in the literary review of this thesis. The formula used to calculate the CAPM model is as follows : ERi - Rf + βi (Rm - Rf) Where : Eri - Expected return of investment Rf - Risk Free rate βi - Beta of the investment (Systematic Risk) (Rm-Rf) - Market Risk premium The market risk premium has been defined and explained to negate the Average return of the stock and the Safe long term government treasury bills. The β of the investment is the measure of market risk. When β is equal to 1, then the market is up by +-1% and the stock is up by +-1%. This determines the relationship between market and investment. It is seen that the stock fluctuates more when in comparison with the market. The stocks are always relatively moving faster. To answer the question whether or not β can be negative? it's yes, there are some assets that are negatively correlated with the market so when the assets go up β goes up and similarly, when assets go down the β goes down. Some of the application of the CAPM model are : 1. Cost of equity for stock valuation 2. Inclusion of stock for a diversified portfolio can be made using the CAPM model To analyze the securities, and to verify whether they are undervalued or overvalued the stock prices of the top 50 Indian companies were selected. They are called the NIFTY 50 index. This is an index used to evaluate the corrective value of a stock in the Indian market. The three day moving average method was used to calculate the closing price of stock. Adjacent closing price was selected, since the closing price doesn't calculate the dividends while that with adjacent stocks calculates the dividends. The formula to calculate the three day moving average was as follows : Ri=(Opening Price-Closing Price)/(Closing Price)×100 The theoretical rate of return of an investment with zero risk is termed as risk free rate. Although it is well known that practically it is impossible to have a risk free return from a security. When there is an investment on a security there is bound be some sort of risk. Although, the National stock exchange of India (NSE) defines the risk free rate with respect to the local market as 6.23% taken from the state treasury bonds. To find out the the undervalued and overvalued stock, we use the Security market line method as well as the α method. The α method shows whether to i

Abstract:

nvest or disinvest from securities whereas the SML graphs shows the undervalued and overvalued stocks. Based on the above calculations, the investors are recommended on what type of stocks to invest upon which gives the max profit with lesser risk free rate.

Keywords

CAPM – Capital Asset Pricing model, BSE, Bombay stock Exchange, Nifty 50, Investment portfolio, Risk, Return, SEBI – Securities & Exchange Board of India, NSE -National Stock Exchange

Language used: English

Date on which the thesis was submitted / produced: 28. 11. 2022

Thesis defence

• Supervisor: Ing. Karel Malec, Ph.D.

Czech University of Life Sciences Prague

Faculty of Economics and Management

Master programme / field:
Economics and Management / Economics and Management