The Arbitrage Pricing Theory and Multifactor Models of Risk and Return (FRM P1 – Book 1 – Chapter 6)

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After completing this reading, you should be able to:
- Explain the Arbitrage Pricing Theory (APT), describe its assumptions, and compare the APT to the CAPM.
- Describe the inputs (including factor betas) to a multifactor model and explain the challenges of using multifactor models in hedging.
- Calculate the expected return of an asset using a single-factor and a multifactor model.
- Explain how to construct a portfolio to hedge exposure to multiple factors.
- Describe and apply the Fama-French three-factor model in estimating asset returns.