Magni, Carlo Alberto (2005): Economic profit, NPV, and CAPM: Biases and violations of Modigliani and Miller's Proposition I.
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Abstract
The notion of Net Present Value (NPV) is thought to formally translate the notion of economic profit, where the discount rate is the cost of capital. The latter is the expected rate of return of an equivalent-risk alternative that the investor might undertake and is often found by making recourse to the Capital Asset Pricing Model. This paper shows that the notions of disequilibrium NPV and economic profit are not equivalent if the standard NPV+CAPM is employed: NPV-minded agents are open to framing effects and to arbitrage losses, which imply violations of Modigliani and Miller's Proposition I. The standard notion of disequilibrium (present) value, deductively derived from the CAPM by several authors, should therefore be dismissed.
Item Type: | MPRA Paper |
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Original Title: | Economic profit, NPV, and CAPM: Biases and violations of Modigliani and Miller's Proposition I |
Language: | English |
Keywords: | Capital Asset Pricing Model, net present value, economic profit, disequilibrium, framing effects, arbitrage, Modigliani and Miller's Proposition I |
Subjects: | G - Financial Economics > G1 - General Financial Markets > G12 - Asset Pricing ; Trading Volume ; Bond Interest Rates G - Financial Economics > G1 - General Financial Markets > G11 - Portfolio Choice ; Investment Decisions G - Financial Economics > G3 - Corporate Finance and Governance > G31 - Capital Budgeting ; Fixed Investment and Inventory Studies ; Capacity G - Financial Economics > G3 - Corporate Finance and Governance > G32 - Financing Policy ; Financial Risk and Risk Management ; Capital and Ownership Structure ; Value of Firms ; Goodwill G - Financial Economics > G1 - General Financial Markets > G10 - General G - Financial Economics > G3 - Corporate Finance and Governance > G30 - General |
Item ID: | 7359 |
Depositing User: | Carlo Alberto Magni |
Date Deposited: | 27 Feb 2008 15:00 |
Last Modified: | 02 Oct 2019 22:11 |
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URI: | https://mpra.ub.uni-muenchen.de/id/eprint/7359 |
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