Betas, market weights and the cost of capital: The example of Nokia and small cap stocks on the Helsinki Stock Exchange

This paper examines the relationship between the market weight of a single stock and the betas of both that stock and the residual portfolio. Theory suggests that the effect of such a large weight is to significantly reduce the beta of the residual portfolio, and it may also significantly raise the beta of the single stock. Furthermore, substantial changes in a stock's market weight will also affect the market risk premium. These results have important implications for cost of capital estimates in markets where there are one or a few large firms. To illustrate the effect of market weight on beta and the cost of capital, the analysis considers the recent case of Nokia and the Helsinki Stock Exchange during a period when Nokia's market weight ranged from 9% to 72%.