Review of Financial Studies Vol. 38 No. 12 2025
Π-CAPM: The Classical CAPM with Probability Weighting and Skewed Assets
Abstract
We propose a new asset pricing model that generalizes the mean-variance framework by including probability weighting, specifically the overweighting of rare, high-impact events. Our model—the $ Π $-CAPM—generates several new predictions: (i) skewness has a positive price effect, amplified by volatility; (ii) the price effect of volatility is negative for left-skewed assets but positive for right-skewed assets; and (iii) option-implied variance premiums for stocks have a U-shaped relation to skewness, amplified by volatility. We find strong empirical support for these predictions. Finally, we show that the $ Π $-CAPM predicts an exaggerated co-movement of assets and can explain the correlation premium.
- DOI
- 10.1093/rfs/hhaf045
- Volume
- 38
- Issue
- 12
- Pages
- 3497-3541
- Language
- en
- Sources
- openalex crossref