Arbitrage Pricing Theory

Arbitrage Pricing Theory (APT)

An alternative model to the capital asset pricing model developed by Stephen Ross and based purely on arbitrage arguments. The APT implies that there are multiple risk factors that need to be taken into account when calculating risk-adjusted performance or alpha.

Copyright © 2012, Campbell R. Harvey. All Rights Reserved.

Arbitrage Pricing Theory

A pricing model that seeks to calculate the appropriate price of an asset while taking into account systemic risks common across a class of assets. The APT describes a relationship between a single asset and a portfolio that considers many different macroeconomic variables. Any security with a price different from the one predicted by the model is considered mispriced and is an arbitrage opportunity. An investor may use the arbitrage pricing theory to find undervalued securities and assets and take advantage of them. The APT is considered an alternative to the capital asset pricing model.

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arbitrage pricing theory

A mathematical theory for explaining security values that holds that the return on an investment is a function of the investment's sensitivity to various common risk factors such as inflation and unemployment.

Wall Street Words: An A to Z Guide to Investment Terms for Today's Investor by David L. Scott. Copyright © 2003 by Houghton Mifflin Company. Published by Houghton Mifflin Company. All rights reserved. All rights reserved.