Question

similarities and differences between Capital Market Theory and Markowitz Theory

Answer 1

Capital market theory tries to explain the relationship between investment returns and risk of investments which are made individually as well as portfolio investments.

Markowitz theory is also known as modern portfolio theory it is a mathematical framework which assembles a portfolio of assets so as the expected return is maximized for a particular risk level.

Differences between the two theories are that CML covers efficient portfolios which consist of one risky and one risk free asset while the other covers all capital assets. CML uses standard deviation, the other uses beta covariance. CML tries to identify optimum portfolios while the other tries to describe how assets are priced by efficient markets.

Similarities are that both try to maximise returns, CML actually builds from the Markowitz theory and has several assumptions which are similar. All investors are considered to be efficient investors, they are free to borrow and are expected to have homogeneous expectations.