A Note on the Two-fund Separation Theorem

MPRA Paper from University Library of Munich, Germany

Abstract: This note contains two remarks on the traditional capital asset pricing model (CAPM) with one risk-free asset. Firstly, an elementary proof of the two-fund separation theorem is provided showing that asset-demand may become undefined if the limiting slope of the investor's indifference curves is finite. Secondly, it is shown that an additional limiting condition on the risk aversion is generally necessary to guarantee existence of an equilibrium in the CAPM with one risk-free asset. The role of these two limiting conditions seems to have been overlooked in the established literature. A generalized existence result is formulated which allows for the case in which in equilibrium not all investors participate in the market for risky assets.

Keywords: Portfolio choice; CAPM; risk aversion; equilibrium; market participation (search for similar items in EconPapers)
JEL-codes: C62 G10 G11 (search for similar items in EconPapers)
Date: 2008-02-08, Revised 2008-09-31
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Persistent link: https://EconPapers.repec.org/RePEc:pra:mprapa:11014

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