Chapter 2
Topics
50 Years of Research in Finance
Considerable progress has been made in research into finance over the last 50 years.
During the 1950s, two very fertile areas for research were financial markets and corporate finance.
- In 1952, Harry Markowitz developed his portfolio theory, by demonstrating mathematically that diversification was to the investor's advantage, as it reduced risk for the same level of returns (or improved returns for the same level of risk).
- In 1958, Franco Modigliani and Merton Miller opened up a field of research into corporate finance, by demonstrating that, if markets are efficient, there is no optimal financial structure that will minimize the cost of capital, and accordingly, maximize enterprise.
Since then, huge strides forward have been taken, mainly in the field of capital markets, with a strong emphasis on mathematics, a result of the educational backgrounds of the researchers—Modigliani the economist and Markowitz the statistician.
- In 1964, William Sharpe demonstrated that there are no portfolios that can systematically beat the market, and that the return that should be required on any financial security is linked to the risk-free interest rate and the market risk of the security via the famous ‘beta’ coefficient, thus creating the capital asset pricing model (CAPM).
- In 1970, Eugene Fama elaborated the theory of market efficiency. Since all new information is immediately integrated into share prices, it is impossible to predict future ...
