If we have a certain set of stocks, say 10-15, is the CAL tangent to the efficient frontier called the Capital Market Line or is it just the CAL with the highest Sharpe ratio for the set of stocks we have? Little bit confused.
Capital Market Line represents the combinations of the best market portfolio and the risk-free rate, the CAL is the line represented by the combinations of your best portfolio of stocks available and the risk-free rate. Your best portfolio should be practically equal to the CML, saying this in other words, you must make your CAL approximate to the CML and be equal, if not, you are not making a good job. You could ask, if CAL = CML, then my personal portfolio should contain ALL the stocks of the market like the CML does. The answer is no, because diversification proves that you don’t need to hold all the stocks of the market, just a well-constructed efficient of them.
Hope this helps.
Thank you!
I wrote an article on the CAL, CML, and SML that may be of some help here: http://financialexamhelp123.com/cal-vs-cml-vs-sml/