Systematic risk is that risk which cannot be diversified away. We will look at these in greater detail in chapters 6 and 7, but for now it is sufficient to say that most likely systematic risk is the prime determines of expected return box that to the other risk factors also playing a role. A brief explanation of why this is so can be seen looking at the various assumptions upon which CAPM is built. In CAPM we assumed perfect markets, however markets are not perfect. Few securities trading continually, instantaneously, and freely.
Investors have many alternative investments from which to choose.
In order to convince investors to buy less liquid securities, the expected return must be higher.