Modern Portfolio Theory

Efficient Frontier

1

The efficient frontier is a cornerstone of MPT. It is the line that indicates the combination of investments that will provide the highest level of return for the lowest level of risk.

2

Portfolios that sit below the efficient frontier line are considered to be inefficient as they do not provide the expected return for the least amount of risk. Investors should avoid those portfolios.

3

Risk-seeking investors would select a portfolio to the right side of the efficient frontier, as it shows the efficient portfolios with the greatest return (and the highest level of risk among the efficient portfolios).

4

On the other hand, a risk-averse investor would select a portfolio to the left side of the efficient frontier, where they can find the efficient portfolios with the lowest returns and the lowest levels of risk.

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