Overview
The capital allocation line (CAL) is a line chart which graphically shows the risk-and-reward profile of risky assets and is usually drawn to determine the optimal portfolio. There are multiple steps to constructing the CAL:
- Calculate the portfolio's expected return and variance
- Graph the efficient frontier using standard deviation as the x-axis and expected return as the y-axis
- Graph the capital allocation line (CAL) with the Sharpe ratio as its slope
- Identify the optimal risky asset portfolio which is the point where the CAL is tangent to the efficient frontier
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