Do we need CAPM for capital budgeting?

Ravi Jagannathan, Iwan Meier

Research output: Contribution to journalReview article

34 Scopus citations

Abstract

A key input to the capital budgeting process is the cost of capital. Financial managers most often use the CAPM to estimate the cost of capital for which they need to know the market risk premium. Textbooks advocate using the historical value for the US equity premium as the market risk premium. The CAPM as a model has been seriously challenged in the academic literature. In addition, recent research indicates that the true market risk premium might have been as low as half the historical US equity premium during the last two decades. If business finance courses have been teaching the use of the wrong model along with wrong inputs for 20 years, why has no one complained? We provide an answer to this puzzle.

Original languageEnglish (US)
Pages (from-to)55-77
Number of pages23
JournalFinancial Management
Volume31
Issue number4
DOIs
StatePublished - Jan 1 2002

ASJC Scopus subject areas

  • Accounting
  • Finance
  • Economics and Econometrics

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