The “market model” of capital asset pricing theory posits that the oneperiod return on an asset is a linear function of the one-period return on a “market factor” plus the effect of factors that are unique to that asset. The coefficients of the model, estimated using realized returns, can be used for predicting asset returns conditional on market returns, and the slope or “beta” coefficient provides an estimate of the asset's risk. Although the market model has been applied to a wide variety of capital market studies and is now being applied by practitioners for assessing asset risk, very little research has been undertaken to discover the determinants of the beta coefficient.

In the last decade the theories of Investor behavior and capital markets have broadened to recognize the importance of the portfolio decision of investors and the simultaneity of price determination of equity values. Tobin, Sharpe, Lintner, and Lerner and Carleton have all made contributions to the theory that equity markets are essentially a system in which many investors simultaneously seek to maximize their wealth by allocating their available liquidity among various equities.

Before I comment in detail on the paper presented by Professors Pettit and Westerfield, I will attempt to place their effort in perspective. Although I will not review the literature comprehensively, I will highlight some recent developments in the capital asset pricing literature.