a set of predictions concerning equilibrium expected re- turns on risky assets. Harry Markowitz laid down the foundation of modern portfolio man- agement in 1952. The CAPM was developed 12 years later in articles by William Sharpe,1 John Lintner,2 and Jan Mossin.3 The time for this gestation indicates that the leap from Markowitzs portfolio selection model to the CAPM is not trivial.     1 William Sharpe, "Capital Asset Prices: A Theory of Market Equilibrium," Journal of Finance, September 1964. 2 John Lintner, "The Valuation of Risk Assets and the Selection of Risky Investments in Stock Portfolios and Capital Budgets," Review of Economics and Statistics, February 1965. 3 Jan Mossin, "Equilibrium in a Capital Asset Market," Econometrica, October 1966. III. Equilibrium In Capital Markets 9. The Capital Asset Pricing Model The McGraw−Hill Companies, 2001           264 PART III Equilibrium in Capital Markets     We will approach the CAPM by posing the question "what if," where the "if" part refers to a simplified world. Positing an admittedly unrealistic world allows a relatively easy leap to the "then" part. Once we accomplish this, we can add complexity to the hypothesized en- vironment one step at a time and see how the conclusions must be amended. This process allows us to derive a reasonably realistic and comprehensible model. We summarize the simplifying assumptions that lead to the basic version of the CAPM in the following list. The thrust of these assumptions is that we try to ensure that individu- als are as alike as possible, with the notable exceptions of initial wealth and risk aversion. We will see that conformity of investor behavior vastly simplifies our analysis.   1. There are many investors, each with an endowment (wealth) that is small compared to the total endowment of all investors. Investors are price-takers, in that they act as though security prices are unaffected by their own trades. This is the usual