Can anyone help me understand as to why in CAPM's market portfolio investors will always have the assets in proportion to the market value? One of the intuitive reasonings that I have read explains that since the odds of finding over-valued and under-valued stocks in a CAPM world as random, rational investors will have not gain anything by overweighing or underweighting any sector. I, however, am unable to understand why would they choose the market values of the asset (and not some other factor, say the riskiness of the asset) as the weights of the respective assets.

Kindly help me in understanding as to why the market value of the asset would be the optimum metric to weigh the assets in the market portfolio. Any help would be highly appreciated.

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    $\begingroup$ It is not just for the CAPM. If the supply of stocks is fixed and all investors follow the same allocation rule (CAPM or something else), in equilibrium the prices of stocks will be such that each investor holds assets in proportion to their market values. It is the result of demand aggregation over investors who use the same decision rule in alocating to stocks. $\endgroup$
    – nbbo2
    Commented May 26, 2022 at 17:16
  • $\begingroup$ Hi @nbbo2 Apologies for ignorance. Can you please simplify this a bit? I couldn't understand what you meant to say. Thanks in advance! $\endgroup$ Commented May 28, 2022 at 6:54
  • $\begingroup$ For a stupid example: suppose every investor believes "do not invest in any stocks except TSLA". This is the common rule they all follow. Then the prices of all stocks will crash to zero (no one wants them) except for TSLA which will be in high demand. TSLA will represent 100% of stocks market value. And lo and behold it is true: investors allocate to stocks in proportion to their market value (they invest 100% in TSLA). Any common rule adopted by all investors will have this effect. $\endgroup$
    – nbbo2
    Commented May 28, 2022 at 16:31


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