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From Investopedia.com:

The capital market line (CML) is a line used in the capital asset pricing model to illustrate the rates of return for efficient portfolios depending on the risk-free rate of return and the level of risk (standard deviation) for a particular portfolio.

The CML is derived by drawing a tangent line from the intercept point on the efficient frontier to the point where the expected return equals the risk-free rate of return.

The CML is considered to be superior to the efficient frontier since it takes into account the inclusion of a risk-free asset in the portfolio. The capital asset pricing model (CAPM) demonstrates that the market portfolio is essentially the efficient frontier. This is achieved visually through the security market line (SML).

The security market line is a line that graphs the systematic, or market, risk versus return of the whole market at a certain time and shows all risky marketable securities.

The SML essentially graphs the results from the capital asset pricing model (CAPM) formula. The x-axis represents the risk (beta), and the y-axis represents the expected return. The market risk premium is determined from the slope of the SML.

The security market line is a useful tool in determining whether an asset being considered for a portfolio offers a reasonable expected return for risk. Individual securities are plotted on the SML graph. If the security's risk versus expected return is plotted above the SML, it is undervalued because the investor can expect a greater return for the inherent risk. A security plotted below the SML is overvalued because the investor would be accepting less return for the amount of risk assumed.

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โˆ™ 2008-10-06 20:06:46
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Q: How does capital market line differ from security market line?
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Related questions

What is advantage of security market line?

SML is also known as Security market line. It is the graphical representation of CAPM or Capital Asset Pricing Model. Here few advantages of SML approach: Financing of Capital Goods Additional Source of Finance


Is Beta the slope of the security market line?

No- the market risk premium is the slope of the Security Market Line (SML).


What is the problem definition of capital market?

Definition of capital market line


Who discovered the capital market line?

James Tobin (1958) extended Markowitz's work by developing the Capital Market Line.


Is Beta is the slope of the security market line?

yes


If is a stock overprice does it lie on the security market line?

No It is under the sml


What does the tangency point M represent in the Capital Market Line?

The tangency point M represents one main feature and factor in the Capital market Line which is called the market portfolio which shows the wealth which is in a risky position in the assets of a company.


What is the effect of inflation on the security market line?

increase risk and increase return


What is the capital asset pricing model?

The CAPM is a model for pricing an individual security (asset) or a portfolio. For individual security perspective, we made use of the security market line (SML) and its relation to expected return and systematic risk (beta) to show how the market must price individual securities in relation to their security risk class. The SML enables us to calculate the reward-to-risk ratio for any security in relation to that of the overall market. Therefore, when the expected rate of return for any security is deflated by its beta coefficient, the reward-to-risk ratio for any individual security in the market is equal to the market reward-to-risk ratio


The risk return relationship for each financial asset is shown on?

the security market line


What Portfolio is located on the capital market line to the left of the market portfolio?

a portfolio with a long position in risk free assest


What is capital market line?

It is discussed in efficient market hypothesis, meaning that you can not beat the market. Capital market line is drawn as a tangent on the curve representing both risky and non risky portfolio. At the point where tangent is drawn represents a model portfolio akin to market. All portfolio above this point has a higher risk reward ratio.

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