THE CAPITAL-ASSET PRICING MODEL - RISK VALUATION, JUDICIAL INTERPRETATION, AND MARKET BIAS

Financial economic theory dictates that rational investors should diversify their portfolios in order to minimize exposure to risk. Integral to this theory is the way in which markets value risk. The Capital Asset Pricing Model, a generally accepted representation of the manner by which markets determine stock prices, provides an instructive theoretical breakdown of the components of risk. This Comment examines how some courts attempt to value risk when determining securities damages and why they may inadvertently overcompensate investors for risk never taken. It notes that in a dynamic environment, incorrect risk valuation by courts could cause a systematic market bias. As a result, this may lead to profound adverse effects, such as inefficient capital allocation and more costly monitoring mechanisms.