Chapter 6 6.5 (iv) Part

Discussion in 'CM2' started by Chirag Wadhwa, Apr 16, 2022.

  1. Chirag Wadhwa

    Chirag Wadhwa Keen member

    Why x_C=0 in this part as in the question it is not specified that no proprtion of money will be invested in risk free asset C.
    Can anyone please explain?
    This has also happened in the CT8 paper, April 2009 Diet 4th Question.
     
    Last edited: Apr 16, 2022
    Chirag Wadhwa, Apr 16, 2022
    #1
  2. Steve Hales

    Steve Hales ActEd Tutor Staff Member

    Along the efficient frontier there are lots of efficient portfolios - and one of those efficient portfolios will hold zero in the risk-free asset. It's this particular efficient portfolio the solution is referring to. It's useful because in E-sigma space it determines where the straight line coincides with the market portfolio.
     
    Steve Hales, Apr 19, 2022
    #2
  3. Chirag Wadhwa

    Chirag Wadhwa Keen member

    Why one of those efficient portfolios will be 0?
     
    Chirag Wadhwa, Apr 19, 2022
    #3
  4. Steve Hales

    Steve Hales ActEd Tutor Staff Member

    Sorry - I've revised my earlier post. It meant to reference the market portfolio rather than the y-axis.
    The investor has the freedom to choose the proportion held in the risk-free asset. Choosing x_C=0 is a legitimate outcome, and matches the market portfolio.
     
    Steve Hales, Apr 19, 2022
    #4
  5. Chirag Wadhwa

    Chirag Wadhwa Keen member

    Ok. What will happen if x_c is not equal to 0, so then it will match the market portfolio?
    So, at the point where the stright line coincides with the market portfolio x_c=0. How?
     
    Chirag Wadhwa, Apr 19, 2022
    #5
  6. Steve Hales

    Steve Hales ActEd Tutor Staff Member

    By definition. The market portfolio is made up of only the risky assets held in the same proportions as their market capitalisations. Since the risk-free asset isn't included we have x_C=0.
     
    Steve Hales, Apr 20, 2022
    #6
  7. Sunil Chaudhary

    Sunil Chaudhary Active Member

    Hi Steve,

    On the same question, can you please let me know how; if a risk free asset is available, the new efficient frontier is the straight line as mentioned in the explanation.

    Thanks
    Sunil
     
    Sunil Chaudhary, Oct 7, 2023
    #7
  8. Steve Hales

    Steve Hales ActEd Tutor Staff Member

    Check out the question on page 5 of the Asset pricing models chapter - that covers it entirely. Let me know if you have problems with it.
     
    Steve Hales, Oct 9, 2023
    #8
  9. Sunil Chaudhary

    Sunil Chaudhary Active Member

    Thanks
     
    Sunil Chaudhary, Oct 11, 2023
    #9

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