How to Calculate the Cost of Equity Using CAPM

How to Calculate the Cost of Equity Using CAPM
Calculating the cost of equity with CAPM.

Step 1

Determine the market risk premium. The market risk premium equals the expected return minus the risk-free rate. The risk-free rate of return is usually the United States three-month Treasury bill rate. In our example, 4 percent minus 1 percent equals 3 percent.

Step 2

Multiply the market risk premium by beta. In our example, 3 percent times 0.9 equals 0.027.

Step 3

Add the risk-free rate to the number calculated in Step 2 to determine the cost of equity. In our example, 0.027 plus 0.01 equals a cost of equity of 0.037 or 3.7 percent.