When calculating the expected return on a security based on the Capital Asset Pricing Model (CAPM), one of the common questions is how to calculate the expected return of the market. Even though there might be various theories to predict the expected return of the market, I personally prefer to use the total return of index (TRI) to approach.
Ra=Rrf+βa∗(Rm−Rrf)
where:
Ra=Expected return on a security
Rrf=Risk-free rate
Rm=Expected return of the market
βa=The beta of the security
(Rm−Rrf)=Equity market premium
The following is the definition of TRI on SET website. According to the definition, the total return index includes capital gain, rights offered, and dividend payments. Therefore, the compound annual growth rate (CAGR) of TRI might be a good reference to predict the future market return. The below table is a sample expected market return calculation for both Thailand and Taiwan mainboard in the below table, as of December 31, 2020. The total return index in SET is 12.67%, which is higher than TAIEX 10.75%.
Total Return Index measures market performance, including price movements (capital gain/loss), rights offered to current shareholders allowing them to purchase additional shares, usually at a discount to market price (rights offering), and income from dividend payments (dividends) assuming they are reinvested in securities.
SET TRI Source: https://www.set.or.th/en/products/index/files/SET_Index_Methodology_Sep2019_EN_v2.pdf; https://www.set.or.th/en/market/tri.html
TAIEX Total Return Index Source:
