Multifactor models seek to improve the explanatory power of single-factor models by explicitly accounting for the various systematic components of security risk. These models use indicators intended to capture a wide range of macroeconomic risk factors.

Once we allow for multiple risk factors, we conclude that the security market line also ought to be multidimensional, with exposure to each risk factor contributing to the total risk premium of the security.

A (risk-free) arbitrage opportunity arises when two or more security prices enable investors to construct a zero-net-investment portfolio that will yield a sure profit. The presence of arbitrage opportunities will generate a large volume of trades that puts pressure on security prices. This pressure will continue until prices reach levels that preclude such arbitrage.

When securities are priced so that there are no risk-free arbitrage opportunities, we say that they satisfy the no-arbitrage condition. Price relationships that satisfy the no-arbitrage condition are important because we expect them to hold in real-world markets.

Portfolios are called "well-diversified" if they include a large number of securities and the investment proportion in each is sufficiently small. The proportion of a security in a well-diversified portfolio is small enough so that for all practical purposes a reasonable change in that security's rate of return will have a negligible effect on the portfolio's rate of return.

In a single-factor security market, all well-diversified portfolios have to satisfy the expected return–beta relationship of the CAPM to satisfy the no-arbitrage condition. If all well-diversified portfolios satisfy the expected return–beta relationship, then individual securities also must satisfy this relationship, at least approximately.

The APT does not require the restrictive assumptions of the CAPM and its (unobservable) market portfolio. The price of this generality is that the APT does not guarantee this relationship for all securities at all times.

A multifactor APT generalizes the single-factor model to accommodate several sources of systematic risk. The multidimensional security market line predicts that exposure to each risk factor contributes to the security's total risk premium by an amount equal to the factor beta times the risk premium of the factor portfolio that tracks that source of risk.

A multifactor extension of the single-factor CAPM, the ICAPM, is a model of the risk–return trade-off that predicts the same multidimensional security market line as the APT. The ICAPM suggests that priced risk factors will be those sources of risk that lead to significant hedging demand by a substantial fraction of investors.