William Sharpe’s work is the bedrock of modern finance.
As a graduate student, Sharpe had been disappointed to discover that financial practice was governed by rule of thumb rather than by theory. Investors confidently believed that paying high fees to investment advisors guaranteed success in the market. So Sharpe decided to apply recently developed computer programs and to innovate new mathematical models to analyze and quantify market processes.
The result was an elegantly simple insight: exposure to greater risk earns greater returns, exposure to lesser risk earns lesser returns. Sharpe’s equation became basic to modern finance, proving that holding a portfolio of equities balanced across market risk is the wisest investment strategy.
Sharpe’s paper was rejected twice before publication, but its groundbreaking ideas have informed generations of scholarship. CAPM supplied the economic argument for modern low-cost, low-risk, broadly diversified index funds—and it made Sharpe a winner of the 1990 Nobel Prize in Economics.