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I have read this problem with applying CAPM and I would appreciate further explanation.
“The CAPM is unable to forecast returns accurately for companies with low price earnings ratio”.
Can you explain further the relationship between CAPM and the PE ratio?
There is no direct relationship between the two.
However it is because a company that has low price/earnings ratio indicates this is a small company and investors in the market are less prepared to buy these shares, shares are not widely circulated in the market so using CAPM is less able to forecast the risk of that business and so cant forecast returns accurately.
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