Asset Pricing Under Ambiguity

The capital asset pricing model is a model which describes as financial market works under the hypothesis that each investor wants to buy a portfolio of assets which gives the highest return for any level of risk. The common sense suggests that risky investments will generally yield higher returns than investments free of risk. With the development of the capital asset pricing model, it is possible to quantify risk and the reward for bearing it. One of the hypotheses of the model is that the uncertainty of the market is modelled by an objective probability distribution on the set Ω of states of nature. In the present work, a subjective probability distribution on Ω is considered for each investor; to take into account this latter probability, the concept of ambiguity is introduced. Consequently an advancement in asset pricing is given with the demonstration of the capital asset pricing model with the additional hypothesis introduced.