The Mean-Variance Rule and the Capital Asset Pricing Model: Overview
Harry Markowitz and William Sharpe were awarded the Nobel Prize in Economics in 1990 for the development of the Mean-Variance (M-V) framework and the Capital Asset Pricing Model (CAPM), respectively. In 2002, this prize was awarded to Daniel Kahneman for the development of Prospect Theory (PT), which contradicts Expected Utility Theory (EUT), on which the M-V framework and the CAPM are based. Is the Economics Nobel Committee inconsistent?
The PT criticism of EUT, which indirectly also criticizes the M-V model and the CAPM, is just one of the mounting empirical and theoretical criticisms of the M-V framework in general, and, in particular, the CAPM, criticisms that imply that one cannot conduct theoretical research or implement practical investment strategies with them. However, the observed extensive academic research and investment strategies, which rely on the M-V and the CAPM, indicate that by the same token, academics and practitioners cannot conduct their research, teaching, and financial analysis and services without them either.