In CAPM, beta is a measure of which type of risk?

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Multiple Choice

In CAPM, beta is a measure of which type of risk?

Explanation:
Beta in CAPM captures how a security’s returns respond to overall market movements, i.e., systematic risk. This is the part of risk that affects nearly all assets and cannot be eliminated simply by diversification. The CAPM pricing uses this exposure to the market to determine the risk premium: E(R) = Rf + beta × (E(Rm) − Rf). A beta around 1 means the asset tends to move with the market, higher than 1 means more volatile, and lower than 1 means less volatile. Unsystematic (company- or industry-specific) risk can be reduced through diversification, so CAPM doesn’t require extra return for it, and beta doesn’t measure this type of risk. Liquidity risk and operational risk are separate concerns not captured by beta in the CAPM framework.

Beta in CAPM captures how a security’s returns respond to overall market movements, i.e., systematic risk. This is the part of risk that affects nearly all assets and cannot be eliminated simply by diversification. The CAPM pricing uses this exposure to the market to determine the risk premium: E(R) = Rf + beta × (E(Rm) − Rf). A beta around 1 means the asset tends to move with the market, higher than 1 means more volatile, and lower than 1 means less volatile.

Unsystematic (company- or industry-specific) risk can be reduced through diversification, so CAPM doesn’t require extra return for it, and beta doesn’t measure this type of risk. Liquidity risk and operational risk are separate concerns not captured by beta in the CAPM framework.

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