Ch 03: Assignment - Risk and Return: Part II 8. Tests of the CAPM Aa Aa The CAPM is one of the most extensively tested models in finance. The following statements describe the assumptions, methods, and findings of several of these studies. Based on your understanding of these issues, which of the following statements are true? Check all that apply. In an examination of whether the betas of individual securities remained stable over time, Levy (1971) found that the past betas of individual stocks are unstable and therefore are not good indicators of a company's future risk Two important hypotheses addressed in tests of the CAPM and SML are that (1) a linear relationship exists between the required return on a security and its beta and (2) the required return of a stock or portfolio exhibiting a beta of 1.0 should equal the required market return (). Given its assumptions, the CAPM has greater value as a predictive model than as a conceptual framework for the evaluation of risks and returns. Most tests of the CAPM have used portfolios of securities rather than individual stocks, due to the instability of the betas of individual securities. Read the following information that addresses the empirical tests that have been conducted on the CAPM and determine whether the information is accurate: The CAPM hypothesizes that only market-specific risk should be positively related to security returns, because company-specific risk should not exist in a well-diversified portfolio. Test results, however, indicate that both exist and are relevant to the returns generated by the tested portfolios. Is this information accurate?