The CAPM is not testable unless
A) the exact composition of the true market portfolio is known and used in the tests.
B) all individual assets are included in the market proxy.
C) the market proxy and the true market portfolio are highly negatively correlated.
D) the exact composition of the true market portfolio is known and used in the tests, and all individual assets are included in the market proxy.
E) all individual assets are included in the market proxy and the market proxy, and the true market portfolio are highly negatively correlated.

Question

Quizplus · Accepted Answer

The CAPM (Capital Asset Pricing Model) assumes that investors hold diversified portfolios that approximate the market portfolio. For empirical tests of CAPM to be valid, it's crucial to use a market proxy that closely represents the true market portfolio, which includes all investable assets. Therefore, knowing the exact composition of the true market portfolio and including all individual assets in the market proxy are essential for accurately testing the CAPM.

The CAPM Is Not Testable Unless