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How to exploit the capital market line?

 
 
stuh505
 
Reply Thu 4 Jun, 2009 11:12 am
The capital market line theoretically allows one to construct a portfolio using a risk-free asset that is superior to any portfolio on the Markowitz efficient front. This is explained here:

http://www.riskglossary.com/articles/capital_market_line.htm

If my understanding is correct, in order to achieve higher returns for the same risk requires shorting the risk-free asset, investing the proceeds in the super-efficient portfolio, and then covering the short position on the risk free asset.

This is where I get confused. I do not understand how it is possible to have a risk-free short position. Shorting implies that someone owns the shares, lends them to you, you sell them, wait for the share value to drop, buy back the shares, and give them back to the original lender. Why would anyone agree to lend shares for you to sell if there was a risk-free opportunity to sell them and buy them back at a lower cost??

According to wikipedia, the risk-free asset "is usually provided by an investment in short-dated Government securities." ( http://en.wikipedia.org/wiki/Modern_portfolio_theory )
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Type: Question • Score: 2 • Views: 9,267 • Replies: 5
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roger
 
  1  
Reply Thu 4 Jun, 2009 12:39 pm
@stuh505,
Hell, I don't know, but good to see you back. You've been missed, people have been worried, and maybe you should check in here. http://able2know.org/topic/35573-231#post-3656066

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Green Witch
 
  1  
Reply Thu 4 Jun, 2009 01:23 pm
@stuh505,
Welcome back. Have you been away working on an MBA?
stuh505
 
  2  
Reply Thu 4 Jun, 2009 01:46 pm
@Green Witch,
Thank you both for the kind welcome.

I was a bit startled to see the massive site overhaul...wasn't sure if I had come to the right place, until I saw all the familiar names.

I left because a2k was distracting too much of my time and turning me into a grumpy internet troll. I hope I don't get sucked back into the cycle, but I am alive Wink

No, not working on my MBA...but I did get my masters in CS and have about a year left until I finish my PhD. The interest in financial mathematics is just a hobby -- one that will hopefully make more money than my actual research, haha.
rosborne979
 
  1  
Reply Thu 4 Jun, 2009 02:07 pm
@stuh505,
Welcome back Stuh, nice to hear from you again. Smile
0 Replies
 
roger
 
  1  
Reply Thu 4 Jun, 2009 02:12 pm
@stuh505,
Something wrong with being a grumpy internet troll?
0 Replies
 
 

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