In finance, a famous application of a one-factor linear model is associated with CAPM, which was developed in the 1960s; see Sharpe (1964), Litner (1965), and Mossin (1966). Up until today, CAPM has been discussed in almost all finance textbooks because of its simplicity and usefulness. Its general formula is shown here:
where E() is the expectation, Ri is return for stock i, Rf is the risk-free interest rate, and E(Rmkt) is the expected market return. Usually, we could use the S&P500 index as our market index. The slope of the equation, that is β, is a measure of the market risk. For individual ...
