Chartered Alternative Investment Analyst (CAIA) Practice Exam 2025 – All-in-One Guide to Master Your Certification!

The asset pricing model that includes the risk-free rate and the market return is indeed a single-factor model. In this model, typically referred to as the Capital Asset Pricing Model (CAPM), the primary factor considered is the market risk, represented by the market return. The risk-free rate serves as the baseline, indicating the return on an investment with zero risk.

The single-factor model is effective in isolating the relationship between the expected return of a security and its systematic risk, which is measured by beta. The model posits that a security's return can be predicted using the risk-free rate, the expected market return, and the sensitivity of that asset to market movements (beta).

In contrast, other models such as the two-factor or three-factor models introduce additional factors beyond just the market return. These factors are typically added to account for various risks not captured by market movements alone, such as size and value in the three-factor model, or other dimensions of risk. Thus, while these models can provide more nuanced insights, they do not directly respond to the question regarding the basic inclusion of the risk-free rate and market return.

This distinction highlights that the single-factor model, particularly CAPM, is fundamental for understanding the relationship between risk and return