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Week 7 Tutorial - Week 7 Tutorial Emily Lo Recap Week 6 All...

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Week 7 Tutorial Emily Lo
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Recap Week 6 All investors will select P* (ORP) as the optimal portfolio of risky assets irrespective of the degree of risk aversion P* is the portfolio which has the highest Sharpe ratio
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Market Portfolio The market portfolio consists of all assets in the market -Value-weighted portfolio of all risky assets publicly traded in the market It is on the efficient frontier and the tangency portfolio Capital Market Line (CML) - is the Capital Allocation Line tangent to the efficient frontier consisting of all assets in the market All investors in the market hold Market portfolio as their ORP CML is mathematically represented as: p M f M f p r r E r r E ) ( ) (
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Contribution of individual asset to market portfolio The ratio of contribution of excess return over the risk free rate of an individual asset i within the market portfolio per unit of risk is: In Equilibrium, the reward-to-risk ratio and the market portfolio should be equal: ) , cov( ) ( M i f i r r r r E 2 , ) ( ) , cov( ) ( ) cov( ) ( ) , cov( ) ( M f M M i f i M M f M M i f i r r E r r r r E r r r r E r r r r E ! ] ) ( [ ) , ( ) ( 2 CAPM r r E r r Cov r r E f M M M i f i
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Capital Asset Pricing Model (CAPM) It considers the measurement of risk and pricing of risk
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