Intl. Portfolio Investment, Jitu

8/9/2019 Intl. Portfolio Investment, Jitu

1/18

INTERNATIONAL

PORTFOLIO INVESTMENT


2/18

OBJECTIVE

The very objective of portfolio investment

management is to select an optimal portfolio

where the risk-return trade-off is optimal.

This denotes a position where return is

maximum with a given level of risk or where

the risk is minimum with a given level of

return.


3/18

CONCEPT OF OPTIMAL PORTFOLIO

There are various concepts being underlined

for selection of an optimal portfolio by striking

a balance between risk and return.

The concepts are as follows:-

(a) The concept of probability

-for measurement of return

(b) The concept & measurement of risk


4/18

Cont..

Measurement of returns

(a)The concept of probability:-

No finance manager knows inadvance what would be the actual returns

from an investment.

Probabilities are merely numbers that

represent the likelihood of chance of

occurrence of various outcomes.


5/18

Cont..

The probability distribution may be either

Discrete or Continuous.

Discrete distribution has only finite no. of

outcomes, whereas in case of a continuous

distribution the outcome is not finite.


6/18

Cont..

Expected return from a single investment

The expected return is the mean of probabilitydistribution. It is the probability-weighted

average of outcomes.

Expected returns from international investment

In case of international investment, the

estimation of expected returns takes into a/c alsothe changes in the exchange rate. And so, thereturn from a security abroad in terms of a homecountry currency(HC) is calculated.


7/18

Cont.

Portfolio return

Portfolio return is the weighted average of the

expected return from different securitiesexisting in the portfolio.


8/18

Cont.

(b) The concept and measurement of risk:-

Risk for a single investment

Risk represents the variance between the actualreturns and the expected returns. After thecomputation of the expected value or the mean, it isnecessary to measure the variance or the deviation ofoutcomes from the mean.

The deviation is known as dispersion or the spread ofprobability distribution.


9/18

Cont

Portfolio risk

The investor tries to reduce the risk involved in

the existing portfolio through diversification.

Diversification means simultaneous investment in

other securities may be within the country or

may be outside the country.

But diversification will help reduce risk only whenthe co-variance/correlation between the existing

portfolio and the new portfolio is negative.


10/18

cont.

After the calculation of covariance/correlation

an investor needs to find out the S.D of a

portfolio.


11/18

Limitation to diversification:

Systematic risk vs Unsystematic riskPortfolio risk can be reduced through

diversification.

Diversification reduces only a particular type of

risk.

A particular asset or a portfolio of asset possesses

two types of risk: one being the unsystematic risk

that can be diversified away, and other being thesystematic risk that cannot be diversified away

through investment in domestic securities.


12/18

Cont..

The unsystematic risk is firm-specific and so simultaneousinvestment in other securities may lower it.

Systematic risk is a macro-economic risk, it is inherent in

the performance of the economy as a whole. so it is similarfor all the securities in the market. This is why it is alsoknown as the market risk.

It cannot be reduced through diversification in the

domestic market although systematic risk too can bereduced through international investment as the macro-economic fundamentals vary in different countries.


13/18

Optimisation of portfolio

Optimisation of portfolio means selection of a

particular portfolio that involves minimum risk

with a given return or maximum return with a

given risk


14/18

Benefits of International Portfolio

InvestmentAn investor opts for international portfolio

investment because international

diversification of portfolio of assets helps

achieve a higher risk-adjusted return. This

means that an investor is able to reduce risk

and raise return through international

investment


15/18

Cont......

Reduction in risk:-

International investment is superior to domesticinvestment in so far as the former helps diversify risk.

Different sectors in an individual economy are in one wayor the other interrelated and as a result, are collectivelysubject to the same impact of the overall domestic policy.

The returns from investment in different sectors of an

individual economy respond jointly to prospects fordomestic activity and to uncertainty about these prospects.


16/18

Cont

On the other hand, the macroeconomicfundamentals of different countries differwidely and do not witness exactly the same

stage of business cycle.

All these means that foreign investment

generates diversification benefits that cannotbe reaped by investing In the domesticcountry alone.


17/18

Cont..

Better risk-return trade-off:-

The international investment helps raise the

return with a given risk or helps lower the riskwith a given rate of return.

This happens because more profitable

investment avenues exist in an enlarged

universe.


18/18

Problems of international investment

It is an established fact that the internationaldiversification of portfolio is gainful. But thereare also some problems that mar an optimal

international diversification of portfolio. Theseproblems are broadly:

1.unfavourable exchange rate movement

2.frictions international financial market3.manipulation of security prices

4.unequal access to information

Intl. Portfolio Investment, Jitu

Documents

Transcript of Intl. Portfolio Investment, Jitu