Security Market Line - SML


DEFINITION of 'Security Market Line - SML'

A line that graphs the systematic, or market, risk versus return of the whole market at a certain time and shows all risky marketable securities.

Also refered to as the "characteristic line".


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BREAKING DOWN 'Security Market Line - SML'

The SML essentially graphs the results from the capital asset pricing model (CAPM) formula. The x-axis represents the risk (beta), and the y-axis represents the expected return. The market risk premium is determined from the slope of the SML.

The security market line is a useful tool in determining whether an asset being considered for a portfolio offers a reasonable expected return for risk. Individual securities are plotted on the SML graph. If the security's risk versus expected return is plotted above the SML, it is undervalued because the investor can expect a greater return for the inherent risk. A security plotted below the SML is overvalued because the investor would be accepting less return for the amount of risk assumed.

  1. Systematic Risk

    The risk inherent to the entire market or entire market segment. ...
  2. Modern Portfolio Theory - MPT

    A theory on how risk-averse investors can construct portfolios ...
  3. Capital Market Line - CML

    A line used in the capital asset pricing model to illustrate ...
  4. Capital Asset Pricing Model - CAPM

    A model that describes the relationship between risk and expected ...
  5. Beta

    Beta is a measure of the volatility, or systematic risk, of a ...
  6. Characteristic Line

    A line formed using regression analysis that summarizes a particular ...
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