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Portfolio ManagementPortfolio Management
Presented by
ITISHRIRegid-10807976
Roll no.A27
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ContentsContents
PORTFOLIO ANALYSIS &SELECTION
jPortfoliojTypes of Portfolios.
jPortfolio Analysis
jPortfolio Management Process
jCalculation of Portfolio return & portfoliorisk.
jMethods of Reducing Risk
jTop Mutual Funds & their Portfolios.
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Portfolio ManagementPortfolio Management
jPortfolio is a combination of securities
irrespective of their nature, maturity,
profitability or risk characteristics.jExpected return of the portfolio depends on
the expected return of each of the security
contained in the portfolio.
jBut you may recall that expected return fromindividual securities carries some degree of
Risk
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Why Portfolio?
The simple fact that securities carrying different
levels of risk thus leads an investor to invest into
various securities at the same time i.e. in Portfolio of
securities«
It is an attempt of Not putting all the eggs into one
basket
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TYPES OF PORTFOLIOSTYPES OF PORTFOLIOS
jTo add a broader perspective to portfolio
investment we have considered 3 types of
investors:
AGGRESSIVE
MODERATE AGGRESSIVE
CONSERVATIVE
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Portfolio AnalysisPortfolio Analysis
j Portfolio Analysis provides detailed portfolio
information in an easy-to-read visual format to help
investors understand what they own and how well their investments are diversified across equity and fixed-
income holdings.
j Portfolio Analysis gives investors a snapshot of their
current portfolio1
to help them make informed decisionsabout their investing strategy.
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K EY FEATURES/BENEFITSK EY FEATURES/BENEFITS
Portfolio Analysis provides in-depth information on
current holdings to customers, including:
jAsset Allocation. Offers a quick read on a
portfolio's current mix of stocks, bonds and short-
term investments to help investors align their asset
allocation with their financial goals. Investors also
can review how a similar hypothetical portfolio may
have performed in historical bear and bull markets.
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Cont..Cont..
j Equity Profile. Allows investors to compare the
diversification of their domestic stock portfolio
against the Equity Index. The analysis uncoverswhether the portfolio is overweighted or
underweighted in a specific industry; where its
investment "style" falls in the spectrum of growth,
value and blend stocks.
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Cont..Cont..
jHypothetical Trade. Illustrates how a change to a
portfolio's composition from buying or selling aspecific investment could affect its asset allocation.
j Fixed-Income Profile. Compares the credit ratings
and sector allocations of domestic bond holdings tohelp investors determine how well diversified they
are in the fixed-income portion of their portfolio.�
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PORTFOLIO MANAGEMENTPORTFOLIO MANAGEMENT
PROCESSPROCESSSpecificationof investment
objectives
Choice of Asset mix
Formulation of portfoliostrategy
Selection of securities
PortfolioExecution
PortfolioRevision
PortfolioEvaluation
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Objectives:
jReturn Requirements
jRisk Tolerance
Constraints & preferences:
jLiquidity
jInvestment horizon
jtaxes
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Selection of Asset MixSelection of Asset Mix
Stocks
Bonds
Cash
Precious Metals
Real estate
Others
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Formulation of Portfolio StrategyFormulation of Portfolio Strategy
1) Active Portfolio Strategy:
jMarket Timing
jSector RotationjSecurity Selection
2) Passive Portfolio Strategy
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Calculate Return and Risk Calculate Return and Risk
jPortfolio Returns
These are weighted returns of all securities
constituting the portfolio.
Where w= weights
r= return of the securities
r
Ewr
E i
N
1i i p
§!
!
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PORTFOLIO RETURNSPORTFOLIO RETURNS
Security No. of Shares Current Price
per Share
Current Value Expected End
Period Return
Total End
Value
A 100 15 1500 20 2000
B 150 20 3000 25 3750
C 200 40 8000 42 8400
12500 14150
So expected holding period return is= 14150-12500
12500
= 13.2%
r Eweightr E i
N
1i
i p §!
!
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Portfolio Risk Portfolio Risk
jPortfolio risk is not a simple average of the
risk of all the securities (as is the case of returns) but it considers standard deviations
together with the co-variance between the
securities. Co-variance measures the
movement of assets together
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PORTFOLIO RISK PORTFOLIO RISK
PORTFOLIO TOTAL RISK
UNSYSTEMATIC RISK (Company related/controllable)
SYSTEMATIC
RISK (market related/uncontrollable)
Market Risk
Purchasing Power Risk
Interest Rate Risk
Business Risk
Financial Risk
+
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Business and Industry Risk Business and Industry Risk
There might be a industry-wide slowdown, or even a
global economic recession Or the business might
see its earnings dropping significantly say, due to
management ineptitude/wrong decisions. The lower
earnings (due to any of the above) may cause the
company¶s stock to fall
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Inflation Risk Inflation Risk
j With the rise in inflation there is reduction of
purchasing power , hence this is also referred to as
purchasing power risk and affects all securities.
j The money you earn today is always worth more
than the same amount of money at a future date. This
is because goods and services usually cost more inthe future, due to inflation. So its important that your
investment return beats the inflation rate.
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Market Risk
j Market Risk is about the uncertainity faced in the
stock market. Several macro and micro economic
details singularly or plurally can spook the market.
Interest Rate Risk
j It is the variability in a security¶s return resultingfrom changes in the level of interest rates. Other
things being equal, security prices move inversely
to the interest rates.
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Liquidity Risk Liquidity Risk
j This risk is associated with the secondary market in
which the particular security is traded. A security
which can be bought or sold quickly withoutsignificant price concessions is considered liquid.
The greater the uncertainty about the time element
and the price concession, the, greater the liquidity
risk.
j Sometimes you are not able to get out of your
investment conveniently, and at a reasonable price.
For example in 2008, you may have found it was
tough to sell your house at a price you wanted
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Measurement of Portfolio Risk Measurement of Portfolio Risk
iE i F
Covxy =
N
R R R R y y
N
i
x x §!1
Covariance measures how returns of 2 securities move
together. If the returns of the two securities move in
the same direction consistently, the covariance would
be positive, if they move in opposite direction thecovariance would be negative. If the movements of
returns are independent of each other covariance
would be close to zero.
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jcovariance divided by product of the
standard deviation of each security gives a
standardized measure called coefficient of
correlation
y x
xy
xy
Cov
W W
V !
y x
xy
xy
Cov
W W V !
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Covariance and CorrelationCovariance and Correlation
Coefficient RevisitedC
oefficient RevisitedjCovarianceij = WiW j Vij
± Where Vij is the correlation coefficient between
two variables, i and j
jMost assets within a country exhibit positive
covariance
± For instance, in the U.S. during a bear (bull)
market, all NYSE stocks tend to fall (rise)
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jThus mixing of securities which are not perfectly correlated is the essence of
modern portfolio theory
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If A and B haveIf A and B have V V = +1= +1
j When combining two assets with perfect positive
correlation, the result is a straight line
j The lower the degree of positive correlation, the
greater is the amount of risk reduction that isossible.
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If A and B haveIf A and B have V V = 0= 0
j Substantial risk reduction can be achieved by combining assetswith V = 0
± SD portfolio becomes much smaller because the last term reduces to
zero
]
ZERO
ZERO
xx2xxSD ABB AB A
2
B
2
B
2
A
2
Ap!
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If A and B haveIf A and B have V V == --11
j When V = -1 the last term of the SD portfolio equation reaches its
maximum negative value
j Zero risk can be achieved because
Losses from one asset are exactly offset by gains from another
1-xx2xxSD B AB A2B
2B
2 A
2 Ap
!
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Risk DiversificationRisk Diversification
Risk diversification is the key to the management of
portfolio risk, because it allows investors to significantly
lower the portfolio risk without adversely affecting
return.
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Methods of reducing risk Methods of reducing risk
Simple
Diversification
Diversifying
acrossIndustries
EfficientDiversification MarkowitzDiversification
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1.Simple Diversification1.Simple Diversification
j Simplest diversification is based on random
selection.
j It refers to the act of randomly diversifying without
regard to relevant investment characteristics such as
expected return and industry classification. An
investor simply selects relatively large number of securities randomly.
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Cont«Cont«
j Unfortunately, in such case, the benefits of randomdiversification do not continue as we add moresecurities, the reduction becomes smaller andsmaller.
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Number of securities
Non-diversifiable risk
(Systematic)
.......................
.
Diversifiable risk (Non-
systematic risk )
3333
Risk
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DIVERSIFICATION ACROSS INDUSTRIESDIVERSIFICATION ACROSS INDUSTRIES
jThe ability to opportunistically allocate to
different sectors also allows the Fund to behighly diversified. By diversifying across a
range of debt securities and sectors, the
impact of default is minimised.
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Efficient diversificationEfficient diversification
j Efficient diversification takes place in an efficient
portfolio that has the smallest portfolio risk for a
given level of expected return or the largest expected
return for a given level of risk. Investors can specifya portfolio risk level they are willing to assume and
maximize the expected return on the portfolio for
this level of risk.
j Rational investors look for efficient portfolios,
because these portfolios are optimized on the two
dimensions of most importance to investors- return
and risk.
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EFFICIENT PORTFOLIOEFFICIENT PORTFOLIO
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MARKOWITZ MODELMARKOWITZ MODEL
j Harry M. Markowitz is credited with introducing
new concepts of risk measurement and their
application to the selection of portfolios.
j He started with the idea of risk aversion¶ of averageinvestors and their desire to maximize the expected
return with the least risk.
j Markowitz generated a number of portfolios within a
given amount of money or wealth and given preferences of investors for risk and return.
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Cont«Cont«
� Individuals vary widely in their risk tolerance and
asset preferences. Their means, expenditures and
investment requirements vary from individual to
individual.
� Given the preferences, the portfolio selection is not a
simple choice of anyone security or securities, but a
right combination of securities.
� The greater the variability of returns in the portfolio,
the greater is the risk.
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4) Markowitz Diversification4) Markowitz Diversification
jHarry M.Markowitz (origin of modern
portfolio approach).
jIt is possible to decrease portfolio risk belowthat obtained via simple diversification
± Use Markowitz diversification
� Select stocks with negative correlation
jIf two stocks have perfect negativecorrelation ( V = -1) it is possible to create a
portfolio with zero risk
± Gains on one stock exactly offset losses from
another
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Cont«Cont«
j Assumptions:
1. Investor has a sum of money to invest at
the present time.
2. Money will be invested at for a particular
length of time known as holding period.
3. After the set time he will sell and consume
the proceeds/reinvest/both.
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Top performing Mutual funds andTop performing Mutual funds and
their Portfolios :their Portfolios :
jBirla Sun life
jHDFC
jReliance Regular Saving Fund
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