Capital Market Theory tries to explain and predict the progression of capital (and sometimes financial) markets over time on the basis of the one or the other mathematical model. Capital market theory is a generic term for the analysis of securities.
In terms of tradeoff between the returns sought by investors and the inherent risks involved, the capital market theory is a model that seeks to price assets, most commonly, shares.
In general, whenever someone tries to formulate a financial, investment, or retirement plan, he or she (consciously or unconsciously) employs a theory such as arbitrage pricing theory, capital asset pricing model, coherent market hypothesis, efficient market hypothesis, fractal market hypothesis, or modern portfolio theory.
The most talked about model in Capital Market Theory is the Capital Asset Pricing Model.
In studying the capital market theory we deal with issues like the role of the capital markets, the major capital markets in the US, the initial public offerings and the role of the venture capital in capital markets, financial innovation and markets in derivative instruments, the role of securities and the exchange commission, the role of the federal reserve system, role of the US Treasury and the regulatory requirements on the capital market.
The Capital Market Theory deals with the following issues:
- Importance of venture capital in the capital market
- Initial public offerings
- Role of capital market
- Major capital markets worldwide
- Markets and financial innovations in derivative instruments
- Role of Federal Reserve System
- Role of securities
- Capital market regulatory requirements
- Role of the government treasury