Page 21 - FINAL CFA SLIDES DECEMBER 2018 DAY 12

LOS 42.b: Explain the Capital Allocation Line Session Unit 12:
(CAL) and the Capital Market Line (CML)., p149 42. Portfolio Risk and Return: Part II

Capital Allocation Line (CAL) –line of possible portfolio risk and return combinations for a 2 asset
portfolio made of say one risk-free asset and one risky asset.
• And the Best CAL or Optimal Portfolio?

Simplifying assumption underlying Optimal
modern portfolio theory (and Portfolio: Why?

CAPM) model:

• Investors have homogeneous tanties • it results in the
expectations (i.e., they all have most preferred
the same estimates of risk, set of possible
return, and correlations with portfolios
other risky assets for all risky combining a risk-
free asset with
assets).
risky asset.

• They face the same efficient • This is CAL, now
frontier of risky portfolios -all lets turn to CML!
have the same optimal risky Varying weights!
portfolio and CAL!

Investors may vary weight (between risky A and risk free B)

depending on their preference for risk and return but will all
face the same market portfolio of risky assets!