Portfolio Management

The

art and science of making decisions about investment mix and policy, matching investments to objectives, asset allocation for individuals and institutions, and balancing risk against. performance.

Traditional Theory
Parameters

of investment avenues are risk

and return Correlation between securities is not considered Risk is considered in total but as systematic /unsystematic Selection of securities- risk & return Diversification is done on the basis of class of securities.

Steps for Portfolio Creation (TPT)

Portfolio

objectives and constraints Diversification Allocation of funds Execution of funds

Modern Portfolio Theory

Harry

Markowitz Stresses creation of a portfolio depends upon the correlation of securities. Favour the concept of Efficient Frontier. EF-Contains all Efficient Portfolios EP- which gives max return or minimum risk.

Principles of MPT
Principle

of Risk of Diversification

Principle

Principle

of portfolio effect (Never put all eggs in one basket)

 Principle

of Dominance (more return / less risk when compared with other Portfolio) of Market risk (systematic risk) of Beta

Principle

Principle

Principle

of trade off between risk and

return

 Principle

of Avoidance ( unsystematic risk)

Markowitz Portfolio Theory

1. 2.

Selection of securities and construction of portfolio is based on 2 factors Mean return variance return Under this method expected mean return for each unit of risk is considered for the identification of efficient Portfolio.

 Also

called as Mean variance Criterion of Markowitz. Identifies the relationship between different securities in portfolio through the concept of Correlation Introduces the concept of Diversification Correlation is + = securities move in same direction Correlation is - = securities move in opposite direction

Assumptions of MPT
Only

2 attributes ;mean and variance Risk averse behaviour of investors ( behaviour of either avoiding risk or covering it). Higher the risk, higher the returns Investors are utility Maximizers (deriving optimum satisfaction (return) by assuming a particular level of risk).

 Correlation

between the securities can reduce risk.

Diversification