Modern Portfolio Theory assumes unlimited borrowing and investing at the risk-free rate. Of course, this is not realistic; margin interest costs several multiples of the RFR, especially for portfolios less than $1 million. To realistically account for margin interest (and the lack of a true RFR) do we use two capital market lines? With the first one, investing at the RFR starts at the interest rate of the lowest risk investment possible to hold (probably 3mo T-bills) and stops at the tangent to the efficient frontier. A second CML, borrowing at the RFR, starts at the margin interest rate and extends to a second tangent point on the efficient frontier and then extends to one's margin limit. The segment of this second CML from the y-axis to the tangent point is not significant because it represents unachievable investing at the margin interest rate; we may represent it as a dotted line.

  • $\begingroup$ Totally correct, given the representation you give of the margin function. $\endgroup$ – Vitomir Jul 9 '19 at 7:10

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