Explanation:
According to the Capital Asset Pricing Model (CAPM), an asset’s risk is measured in relation to its factor exposure. A factor with a high risk premium implies that there is a high exposure to that factor. This is because the risk premium is a reward for bearing the risk associated with that factor. Therefore, if the risk premium is high, it means that the risk associated with the factor is high, and hence the exposure to that factor is also high. Furthermore, a high risk premium also implies a high expected return of the asset. This is because the expected return of an asset is a function of its exposure to systematic risk and the corresponding factor risk premium.
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Q.4591 Which of the following statements is most likely true about factor risk exposure and rewards in CAPM?
A
A high risk premium implies a low exposure to a factor
B
A high risk premium implies a low expected return of an asset
C
A high risk premium implies a higher exposure to the factor and a high expected return of the asset
D
A high risk premium implies a high exposure to the factor and a low expected return of the asset
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