Two-asset efficient frontier

How it works

Each point on the curve is one mix of the two assets, from all in the first to all in the second. The mix's expected return is the weighted average of the two returns; its volatility depends on both volatilities and the correlation between them, so with a correlation below 1 some mixes carry less risk than either asset alone. The minimum-variance mix is the lowest point of risk. The tangency mix has the highest Sharpe ratio: the most return above the risk-free rate for each point of volatility. The dashed line from the risk-free rate through it is the capital market line.

Assumptions

Expected returns, volatilities and the correlation are your inputs and are held constant, which real markets do not do. No borrowing or short selling: weights run from 0% to 100%. Returns are treated as normally distributed. A teaching model of diversification, not an allocation.

For information and education only. Not investment advice.