William F. Sharpe
Candlefocus EditorSharpe was born in Massachusetts and obtained his undergraduate degree from UC Berkeley in 1958. He went on to receive his PhD in economics from the University of Chicago and went to work for the RAND Corporation afterwards. His early work focused on applying modern financial models to different types of investments and insurance, leading him to develop the CAPM in 1964.
The CAPM is a cornerstone in portfolio management and seeks to find the expected return by looking at the risk-free rate, beta, and market risk premium. The formula takes into account the expected return volatility of an asset and compares it to the market as a whole. This gives investors an idea of what sort of return they should expect based on the certain risk level of their investment. It also provides valuable insight into diversification and how to construct a portfolio that is expected to produce a desired return.
In 1966, Sharpe went on to develop the Sharpe ratio, a measure of risk-adjusted return. The ratio helps investors decipher which investments provide the best returns for the risk level. It does this by subtracting the risk-free rate from the expected return of an investment and then dividing that by the standard deviation of the investment.
The CAPM and Sharpe ratio remain the foundation for Modern Portfolio Theory and are widely used by financial professionals around the globe to help investors achieve their financial goals. For his groundbreaking work in this field, Sharpe received the Nobel Prize in Economic Sciences in 1990, becoming one of the first economists to be awarded a Nobel Prize.
William F. Sharpe's legacy will continue to be seen in the world of finance thanks to his contributions to modern portfolio theory. His work will continue to shape the way financial professionals construct portfolios in the years to come.