Stating graphically the difference between CML (Capital Market Line) and SML (Security Market Line)
Discuss about the Investment Management for Capital and Security Market Line.
The aim of investors is to evaluate different investment formulas and scopes which could detect the stocks that helps in generating the highest rate of return from investment with low risk. Hence, different level of theories and formulas are relatively evaluated in the assessment to identify the significance of different investment phase for an investor. The difference between capital market line and security market line is evaluated to allow the investors understand the significance of both the market lines. The significance of minimum variance portfolio is also evaluated which would allow investors to understand the advantage of having the lowest risk generating portfolio. Lastly, the significance and use of CAPM formula is stated, which is relatively used in maximum of the possible to identify risk and return of a particular investment. Therefore, the evaluation would eventually allow investors to detect the significance of theories and formulas while making any kind of investment decisions.
Capital market line and security market line at different investment measures which are used by investors to detect stocks which has the least risk and highest return from investment. Both the market lines have different significance for the investors and is considered important while making any kind of investment decisions. With the use of capital market line investors are able to goes into the portfolio efficiency which relatively indicates the overall profits and risk involved in investment. Moreover, the capital market line aims in understanding different kind of portfolios for the investors who aims to maximize the profit and minimize any kind of dress from investment. Similarly, investors utilize the security market line, as a risk evaluator, where the stocks needs to be at the SML line to be effective for investment (Fender et al. 2016). There is the significant difference between capital market line and security market line which needs to be understood by investors before conducting any kind of Investments. these differences and significance can only be described with the help of the following measures.
The major difference between security market line and capital market line is the nature of investments that evaluates. security market line mainly focuses on the individual stocks and identify the risk return attributes on the prospects of risk free rate, beta, and market return. this combination of the security market line allows the investors to understand the significance of required rate of return that needs to be provided from a particular investment. However, the capital market line is focused on portfolios comprising of different level of stocks with high and low risk. This method directly helps in improving the level of returns that could be generated from investment. Therefore, investors need to evaluate the particular stocks on the basis of security market line and create the portfolio with the help of capital market line.
Nature of Investment
Risk and return calculation of capital market line and security market line is relatively different, which allows the investor to detect stocks with the highest rate of return. Capital market line mainly uses the standard deviation of the stock returns to understand the level of risk involved in the investment. The risk attributes of capital market line are only focused on the fluctuations of the price of a particular product. This helps in detecting the risk and reward ratio of the stock, which would help in drafting an adequate portfolio. This would eventually help in understanding the level of return and risk of an investment before including them in the portfolio. However, the risk and return attribution of security market line is relatively different, where it uses beta to calculate the risk of a particular stock. Beta of a stock is calculated with the help of the correlation of returns between market and the stock. This correlation indicates the impact market has on the price volatility of the stock, which could be used to maximize the return from investment (Balance 2014).
Security market line relatively helps in measuring the risk with the help of Beta, which directly allows the investors to compare its investments with the market return and risk. The representation of risk with the help of security market line allow the investors to generate higher rate of return from Investments. On the other hand, the risk attributes of capital market line are calculated with the help of standard deviation which is calculated on the basis of total risk factor. The detection of total respective allows the capital market line identify stocks, which would generate the highest rate of return from investment while having minimized risk.
Portfolio efficiency is a relatively improved with the help of both the market lines, which allow investor to identify stocks with the highest rate of return and low risk. Investors with the help of security market line is able to detect stocks with beta and return capability, which could be used to form an effective portfolio. However, the capital market line relatively utilizes the portfolio risk and return attribute, which helps in identifying the combination of stocks that delivers the highest returns from investment. The combination of stocks a relatively helps in understanding the level of returns, which could be generated from an investment (Kahn and Lemmon 2014).
The above figure a relatively helps in detecting the overall minimum variance portfolio which would allow investors to maximize their profits by conducting investments on portfolios having the lowest risk. The figure directly helps in detecting the Two different lines which is constructed to identify the stocks with the least risk involved in Investments. One of the curve is Markowtiz Frontier, indifference curve and capital allocation line. With the help of the above curve and lines investors are able to detect the minimum variance portfolio, which has the lowest risk involved in Investments. The green dot is named the Global minimum variance portfolio, as there is no portfolio that could provide the lowest risk involvement in Investments. The other points in the graph is a relatively considered the optimal risky portfolio, maximum utility portfolio and the aggregate bond index. These are relatively used to identify the minimum variance portfolio, which would help in maximizing the level of returns from investment without encouraging any kind of unsystematic risk (Carlsson and Nilsson 2017). The significance of minimum variance portfolio is stated below which could allow investors to detect the viability of the approach.
Relationship between risk and return attributes
With the use of minimum variance portfolio investors are able to minimize the losses that is incurred from investments in the capital market. The decline in losses relatively occurs due to the presence of Minimum variance portfolio which allows the investors to only select stocks which has the least risk from investment. The combination of different stocks is used to identify the portfolio that has the least risk involved in Investments to be used by investors to maximize their profits in an uncertain and volatile capital market. The minimum variance portfolio investors to identify the stocks which does not reflect on the price changes and fluctuations of the capital market.
With the help of minimum variance portfolio investors are directly able to detect the level of weights, which needs to be invested in a particular stock. The investors are relatively provided with adequate investment opportunity with the help of minimum variance portfolio, as the combination of stocks allow them to maximize their profits from a low risk portfolio. In this context, HA Davis and Lleo (2015) stated that with the use of appropriate we investors able to combine different stocks in one particular portfolio, which improve the level of profits while mitigating risk. However, the return on minimum variance portfolio is relatively low, as the portfolio only focuses on reducing risk and does not consider the return factor, which is demanded by investors.
Moreover, with the help of a minimum variance portfolio calculation the investors are able to detect the range of put values that could be used for investment. Portfolios such as minimum utility portfolio, optimal risky portfolio, and aggregate portfolio, which a relatively helps in maximizing the profits while minimizing risk from investment. Minimum variance portfolio calculation allows the investors to segregate the stocks in accordance with the risk where adequate they are used to determine the return and the risk attributes of a particular investment.
Minimum variance portfolio helps the investors to analyses different investment scopes by providing them with the least risk portfolio which could be used for investment. Hence, the investors could use the minimum variance portfolio as a benchmark for analyzing different portfolios which could provide the highest rate of return from investment. Therefore, the minimum variance portfolio allows the investors to analyses different investment scope which would generate the highest rate of return while reducing the risk from investment (Andonov, Eichholtz and Kok 2015).
Measuring of risk
The formula and diagram of Capital Asset pricing model is relatively depicted in the above figure, which helps in understanding the significance of the formula in deriving the required rate of return. CAPM formula is relatively used by investors in different formulas such as weighted average cost of capital to detect the minimum required rate of return that is needed by the organisation. This relatively indicates the significance of Capital Asset pricing model which allows the investors to understand the level of risk and return involved in Investments. The CAPM formula is relatively used for its simplicity, as investors are able to identify investment scopes which could detect the stocks with the highest rate of return. However, the formula depicts the significance of Beta which relatively changes all stocks. higher the beta higher will be the required rate of return calculated from CAPM. This relatively indicates that the risk attributes directly compliment the return generation capability of a particular stock (Dimmock, Gerken and Marietta-Westberg 2015).
Other formulas used for deriving the required rate of return does not comprehend the simplicity of detecting the returns provided for a particular stock. CAPM formula a relatively uses the systematic risk that affects the return generation capability of a particular stock, as the unsystematic risk is not involved or detected by investors. Therefore, the formula is relatively effective for investment purposes and has been used in different formulas such as dividend discount model, weighted average cost of capital model etc.
Hence, it could be understood that with the use of CAPM formula investors are able to not only detect the required rate of return but the risk attributes of a particular investment. The results provided by CAPM is for the segregated in different levels and formulas to understand the actual return and risk attribute of a particular stock. Therefore, it could be understood that without the CAPM formula the investors will not be able to identify the stock Returns, which is used to conduct investment decision (Polearu? 2017).
Conclusion:
After evaluating the relevant theories and formulas presented in the above assessment it could be identified that with these measures investors could maximize their profits file minimise risk from investment. The use of minimum variance portfolio would eventually allowed investor to reduce the level of risk involved in Investments. On the other hand, the use of capital market line would eventually value at the portfolio on the basis of risk and return attributes. The security market line would also evaluate the stocks based on risk situated with the volatility of capital market. However, the significance of Capital Asset pricing model is a relatively depicted, which indicates that the formula is effectively used by investors all around the world to drive the required rate of return from an investment.
Reference and Bibliography:
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