Application
The risk-free interest rate is highly significant in the context of the general application of Modern Portfolio Theory which is based on the Capital Asset Pricing Model. There are numerous issues with this model, the most basic of which is the reduction of the description of utility of stock holding to the expected mean and variance of the returns of the portfolio. In reality, there may be other utility of stock holding, as described by Shiller in his article 'Stock Prices and Social Dynamics,' (1984) Brooking Papers on Economic Activity, pages 457 to 511.
The risk free rate is also a required input in financial calculations, such as the Black–Scholes formula for pricing stock options and the Sharpe Ratio. Note that some finance and economic theories assume that market participants can borrow at the risk free rate; in practice, of course, very few (if any) borrowers have access to finance at the risk free rate.
Read more about this topic: Risk-free Interest Rate
Famous quotes containing the word application:
“May my application so close
To so endless a repetition
Not make me tired and morose
And resentful of mans condition.”
—Robert Frost (18741963)
“Courage is resistance to fear, mastery of fearnot absence of fear. Except a creature be part coward it is not a compliment to say it is brave; it is merely a loose application of the word. Consider the flea!incomparably the bravest of all the creatures of God, if ignorance of fear were courage.”
—Mark Twain [Samuel Langhorne Clemens] (18351910)
“The human mind is capable of excitement without the application of gross and violent stimulants; and he must have a very faint perception of its beauty and dignity who does not know this.”
—William Wordsworth (17701850)