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What are the main differences between a CAPM methodology and a factor-model methodology?

Answer

CAPM relies solely on the assumption of a single factor (market risk) usually obtained from listed equity markets to predict asset returns, while multi-factor models consider multiple variables like size, leverage, profit, investment, that are all relevant to private infrastructure.

Factor-models offer a more comprehensive analysis, capturing various risk sources for greater accuracy in estimating returns. Their ability to incorporate these additional factors makes them preferable, particularly in complex market environments. Thus, multi-factor models are always favoured over CAPM for their robustness and effectiveness in understanding the complexities of a market. 

Further Reading

For a more detailed explanation of how a CAPM approach can produce misleading discount rates, you can read a summary of our insights here.


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