For each investment, the expected return Capital Asset Pricing Model (CAPM) is calculated using the established Capital Asset Pricing Model formula.
Expected Return = Rf + Beta * ERP
Where:
- Rf: The risk-free rate of return in the market considered, that is, what you would get if you invest in an instrument on that market that is theoretically safe and has not chances of default. For example, the Australia 10-Year Bond Yield for Australian-listed securities.
- Beta: The equity’s Beta, which measures the portfolio’s volatility compared with the entire market.
- ERP: The Equity Risk Premium, representing the extra return that you should expect to receive for investing in risky assets in that particular market, on top of the risk-free rate. In Diversiview, the ERP for each market is based on Professor Aswath Damodaran’s calculations and is updated twice a year.
Example Expected Return (CAPM) for an individual security (ASX:BHP):
Rf = 4.51% (Australian Bond 10 Year Yield) as at 16/01/2025
BetaBHP = 1.2 (benchmark: ASX All Ords Index)
ERPAustralia = 4.33%
Expected Return BHP = 4.51% + 1.209 * 4.33% = 9.745%
Example Expected Return (CAPM) for a Portfolio
Consider a hypothetical portfolio consisting of the following stocks as at 16/01/2025:
- US:DUOL: 34% Portfolio weight
- ASX:ANZ 33% Portfolio weight
- US:JPM 33% Portfolio weight
| Company | Rf | BetaCompany | ERP | Expected Return (CAPM) |
| US:DUOL | 4.66% | 1.525 | 4.33% | 11.263% |
| ASX:ANZ | 4.51% | 0.887 | 4.33% | 8.351% |
| US:JPM | 4.66% | 0.855 | 4.33% | 8.362% |
Note: All values as at 20/1/2025
CAPM Formula: Expected Return = Rf + Beta * ERP
To Calculate the Portfolio Expected Return, find the weighted average of each stock and add together:
(Holding 1 Weight % * Expected Return CAPM) + (Holding 2 Weight % * Expected Return CAPM) + (Holding 3 Weight % * Expected Return CAPM)
Weighted Average of US:DUOL: 34% * 11.263% = 3.829%
Weighted Average of ASX:ANZ 33% * 8.351% = 2.756%
Weighted Average of US:JPM 33% * 8.362% = 2.759%
The sum of the weighted averages 3.829% + 2.756% + 2.759% is: 9.345%
Summary
The CAPM model provides a framework for estimating expected returns based on systematic risk (represented by Beta), which means that other (non-systematic) risks may not be fully captured, particularly for high-growth or more volatile securities.
To view the Portfolio Expected Return (Historical) for this portfolio example, click here.
Note:
When calculating using the CAPM formula, the expected return changes as the Rf, Beta, and the ERP change. Diversiview updates securities’ Beta values weekly, the Rf rate monthly, and the ERP twice a year.
To learn how to select your preferred calculation method for expected return in Diversiview, click here.