What is Capital Allocation Line?
The Capital Allocation Line (CAL) is a fundamental concept in modern portfolio theory (MPT) that illustrates the relationship between risk and return for a portfolio of assets. The CAL represents the various combinations of risk and return that an investor can achieve by holding different proportions of risky assets (such as stocks) and risk-free assets (such as Treasury bills) in their portfolio.
At the heart of the Capital Allocation Line is the trade-off between risk and return. Generally, as an investor increases their exposure to risky assets, such as stocks, they expect to earn higher returns over time. However, this comes with the trade-off of accepting greater volatility or risk in their portfolio. Conversely, by allocating more to risk-free assets like Treasury bills, investors can reduce the overall volatility of their portfolio but typically at the cost of lower expected returns.
How to Calculate Capital Allocation Line?
Capital Allocation Line calculator uses Expected Return on Portfolio = ((Expected Return on Treasury Bill*Weight of Treasury Bill)+(Expected Return of Stock*Weight of Stock))*100 to calculate the Expected Return on Portfolio, The Capital Allocation Line (CAL) is a graphical representation used in portfolio theory to illustrate the trade-off between risk and return for different portfolios. Expected Return on Portfolio is denoted by ER_{P} symbol.
How to calculate Capital Allocation Line using this online calculator? To use this online calculator for Capital Allocation Line, enter Expected Return on Treasury Bill (ER_{tb}), Weight of Treasury Bill (W_{tb}), Expected Return of Stock (ER_{S}) & Weight of Stock (W_{S}) and hit the calculate button. Here is how the Capital Allocation Line calculation can be explained with given input values -> 8.4 = ((0.03*0.3)+(0.1*0.75))*100.