In the mean-standard deviation graph,the line that connects the risk-free rate and the optimal risky portfolio,P,is called _________.
A) the capital allocation line
B) the indifference curve
C) the investor's utility line
D) the security market line

Question

Quizplus · Accepted Answer

The line that connects the risk-free rate and the optimal risky portfolio is called the capital allocation line (CAL). This line represents all the possible combinations of risk and return that an investor can achieve by combining the risk-free asset and the optimal portfolio. The CAL is a straight line because the risk-free asset has zero standard deviation and correlation with any other asset, and the optimal portfolio has the highest Sharpe ratio, which represents the excess return per unit of risk. Therefore, the CAL represents the most efficient combinations of risk and return, and any portfolio that lies above the CAL is deemed inefficient because it has a lower Sharpe ratio than the optimal portfolio, and any portfolio that lies below the CAL is deemed suboptimal because it has a lower return than the risk-free asset.

In the Mean-Standard Deviation Graph,the Line That Connects the Risk-Free