Sharpe’s Single Index Model: An Approach of Building Optimal Portfolio

Abstract

Holding a perfect investment portfolio is a cherished dream of all investors. A rational investor is constantly in search of optimal portfolio and popular measure is the risk-return trade-off. The study has used Sharpe’s Single Index Model (SIM) to construct an optimal portfolio. Eight popular stocks which are regular constituents of BSE Sensex Index were picked for constructing a portfolio. Sharpe’s optimal portfolio based on SIM selected only two of the securities, rejecting the other 6 securities. Daily returns of Individual securities are compared with a single index, which is BSE Sensex daily return over a period of 5 years. The paper is aimed at educating the current and prospective investors to construct an optimal portfolio based on Sharpe’s SIM. The paper also intends to sensitize the investors about the advantage of SIM for constructing an optimal portfolio over the complex Markowitz’s Optimal Portfolio Model.