Is there an easy way to understand the relationship and differences between the SML and CML?
Both are Risk vs Return graphs. The biggest difference between them is: CML is Return Line for ALL Risks. SML is Return Line for SYSTEMATIC Risk ONLY.
CML containes only efficient portfolio while SML contains both efficient and non-efficient.
I do not totally agree with rus1bus. The SML is in a beta-expected return system, whereas the CML is in a risk-expected return system… Daniel www.lambert-shop.net
SML measures return vs standard deviation, all securites fall on the SML CML combines risk free asset with risky assets, it is a tangent line to the efficient frontier but not necessarily on it
@Daniel Isn’t it the same? @cfagoal2 If its a tangent line, how can it possibly be not on it? lol Anyway, very often CML is referred to as the best possible CML and hence the line only contain efficient portfolios.
Some books like the one of Bodie and Kane use the word CAL (Capital Allocation Line) along with CML. In short, CML is the optimal CAL that tangent the efficient frontier.
@ revenant: What do you mean? Beta and sigma are not the same risk measures… Daniel www.lambert-shop.net
CML vs SML CML contains optimal whereas SML doesn’t CML is return vs sigma whereas SML is required return vs beta Slope of CML is max Sharpe whereas slope of SML is excess return of market portfolio (E(RM)-RFR).