What Is a Security Market Line?
The illustrated form of the Capital Asset Pricing Model (CAPM) is called the Securities Market Line (SML). It is mainly used to explain the relationship between the portfolio return and the degree of system risk, and the relationship between the equilibrium expected return of all risky assets in the market and the risk.
Stock market line
- The stock market line is a straight line in a coordinate system with Ep as the ordinate and p as the abscissa. The equation is: E (r i ) = r F + (r M -r F )
- Where E (r i is expected (expected)
- The difference between the securities market line (SML) and the capital market line (CML)
- Horizontal axis: SML is a beta that only measures systemic risk; CML is the standard deviation, which includes both systemic and non-systemic risk. And the vertical axis is the same as the expected rate of return E (r P ).
- Slope: The slope of SML is the market-required rate of return-risk-free rate of return, also known as risk premium, which represents the risk price of systemic risk.
- The slope of CML is (expected return of risk portfolio-risk-free return) / standard deviation of risk portfolio, which represents the risk price of the overall risk.
- SML uses the beta coefficient to describe the relationship between the expected return of a single asset or a portfolio of assets in the market and the risk; CML uses the standard deviation of the entire portfolio to apply only to an effective combination of risky assets and risk-free assets, and cannot describe a single security .
- The meaning of r M in SML and CML is different. R M in SML means "necessary rate of return", which is the minimum rate of return required to invest "before". r M stands for "Expected Return" in CML, and the expected return after "investment".
- The role of SML is to bring the "required rate of return" into the stock valuation model and calculate the intrinsic value of the stock; the role of CML is to determine the proportion of the investment portfolio based on the expected rate of return.