Lintner presented his CAPM model before Raiffa and Schlaifer. These two did not see how his model refuted Modigliani-Miller, but did use Lintner’s math to explain some of their arguments in a textbook they were beginning on Statistical Decision Theory. In fact, Raiffa and Schlaifer only saw Lintner’s model as further explanation of covariance of one stock within a portfolio.
Still determined, Lintner knew variance also had something to do with his pricing model, not just covariance. Sharpe published his own CAPM theory in 1965. Lintner was sure Sharpe’s model was wrong and successfully convinced him so. Still not knowing exactly how, Lintner continues to search for a more accurate pricing model that would include an asset’s variance.
A for John Doe.
ReplyDeleteNote that the "separation theorem" — which says that you can find the optimal size of a portfolio separately from its optimal weights — is a form of Modigliani-Miller theorem too (where the weights attached to liabilities are separate from the size of the assets).
We'll touch on this after spring break, but Lintner's idea that variance mattered (when the CAPM says that it does not) was later confirmed by using option pricing, and the conception of the firm as a set of options, to value net equity. Lintner's intuition was right, but his methods didn't get him to the answer.
N.B. I think time has passed him by, but I have seen arguments that Raiffa should get a Nobel Prize for his contributions to applying decision sciences and managerial economics.