CHAPTER NINE: INVESTMENT PORTFOLIO MANAGEMENT potx

CHAPTER NINE: INVESTMENT PORTFOLIO MANAGEMENT 06/08/2011 1 06/08/2011 2 INVESTOR An investor is a party that makes an investment into one or more categories of assets equity, debt securities, real estate, currency, commodity, derivatives such as put and call options, etc. with the objective of making a profit.  Inviduals  Organizations: Financial entities including Brokerages, Banks, Funds… 06/08/2011 3 INVESTMENT PROCESS - Analyze the market - Evaluate expected returns and risks - Design the optimized portfolio 06/08/2011 4 Risk aversion U =E(r) -0,5A. Б 2 Б 2 = 0 -> U = E(r) (Risk free portfolio) Risk of portfolio and Diversification Return and Risk of portfolio: )( n 1i    iip ERwER [8-9] Active Management – The process of managing investment portfolios by attempting to time the market and/or select “undervalued” stocks to buy and “overvalued” stocks to sell based upon company research, investigation and analysis Passive Management – The process of managing investment portfolios by trying to match the performance of an index or asset class of securities as closely as possible by holding all or a representative sample of the securities in the index or asset class – Does not use market timing or stock selection strategies PORTFOLIO MANAGEMENT 06/08/2011 5 Investment Decision Matrix: Where Do You Fit In? Market Timers and Stock Selectors * Where the common crowd hangs out Preference of active management, high-cost “gurus * ” Heavy on investment hype Stock Selectors Preference of stockbrokers and many financial advisors * High cost, high turnover, high taxes Market Timers Tactical analysis * (with no proven results) Tax inefficient Short-term outlook The Informed Investor Based on academic research and data * As much as 40% of institutional invested dollars The prudent investors Receive market returns Where YOU should be (and where we are) 1. 2. 3. 4. 06/08/2011 6 • Asset Class Investing – Stocks and Bonds – US and International – Large Cap and Small Cap – Growth and Value – Short-Term and Long-Term Maturity 06/08/2011 7 • Why Use Passive Asset Class Investing? – Lower portfolio turnover – Lower operating expenses – Lower transaction costs – Greater tax-efficiency – Long-term perspective – Broad diversification/risk reduction – Control of asset allocation – Passive asset class funds capture separate dimensions of worldwide returns 06/08/2011 8 Passive versus Active Portfolio Management • Review of Market Efficiency • Anomalies • Market Timing • A theoretical model of active portfolio management (Treynor-Black) • Quantitative Investment Management 06/08/2011 9 Passive Management • Buy and Hold • Indexation • Active management must beat these strategies on a net risk adjusted return basis! • What if markets are efficient? 06/08/2011 10 [...]... risk-adjusted basis • How do you exploit this model? 06/08/2011 11 Treynor-Black Model: Assumptions • Analysts can only produce quality analysis on a small number of securities • There is a passive market portfolio (M) • Forecasts of return (E(rM) and risk (s) exist • Determine abnormal return (a) for analyzed securities • Find optimal weights of analyzed securities to create active component (A) • Combine... (ak/s2(ek))/(S[ai/s2(ei)]) => determine aA, bA, s2(eA) 06/08/2011 13 Treynor-Black: Construction (Step 2) • w0 = (aA/s2(eA))/[(E(rM)-rf)/s2M] • w* = w0/(1+(1-bA)w0) • w0 is the proportion of A in the new, enhanced market portfolio (M‘) 06/08/2011 14 . CHAPTER NINE: INVESTMENT PORTFOLIO MANAGEMENT 06/08/2011 1 06/08/2011 2 INVESTOR An investor is a party that makes an investment into one or more categories. E(r) (Risk free portfolio) Risk of portfolio and Diversification Return and Risk of portfolio: )( n 1i    iip ERwER [8-9] Active Management – The process of managing investment portfolios by. Active Portfolio Management • Review of Market Efficiency • Anomalies • Market Timing • A theoretical model of active portfolio management (Treynor-Black) • Quantitative Investment Management 06/08/2011