This document defines key concepts related to portfolio management including portfolio, portfolio analysis, construction, and evaluation. A portfolio is a combination of different financial securities like stocks, bonds, and cash held by investors. Portfolio management involves identifying objectives, developing strategies, monitoring performance, and evaluating results. Portfolio analysis assesses the risks of an entity's business areas. Construction requires determining objectives and formulating investment strategies. Evaluation models like Sharpe ratio, Treynor ratio, and Jensen measure are used to assess risk-adjusted performance.

1. What is mean by Portfolio?
• A grouping of financial assets such as
stocks, bonds and cash equivalents, as
well as their mutual, exchange-traded and closed-
fund counterparts.
Or
• Portfolio is a combination of
securities such as stocks, bonds and
cash.
• Portfolios are held directly by investors
and/or managed by financial
professionals.

2. Define 'Portfolio Management‘.
• A Portfolio Management refers to the
science of analyzing the strengths,
weaknesses, opportunities and
threats for performing wide range of
activities related to the one’s portfolio
for maximizing the return at a given
risk.
• It helps in making selection of Debt Vs
Equity, Growth Vs Safety, and various
other tradeoffs.

3. elements of Portfolio Management
• Portfolio management is an on-going involving
the following basic tasks.
• Identifications of the investor
objectives
• Strategies to be developed and
implemented
• Review and monitoring of the
performance of the portfolio
• Finally, the evaluation of the

4. PORTFOLIO ANALYSIS

5. What is meant by Portfolio Analysis?
• Portfolio analysis is a systematic way to
analyze the products and services that
make up an association's business portfolio.
• The analysis seeks to understand the risks
associated with the current
composition of the portfolio and
identify ways to mitigate the
identified risks.

6. Steps involved in Portfolio Analysis
• Determining the objectives
• Formulation of Investment Strategy
• Execution of Strategy
• Monitoring
• Revision
• Evaluation

8. PORTFOLIO CONSTRUCTION

9. introduction
• Commonly, there are two approaches
in the construction of the portfolio of
securities viz.
• Traditional approach and
• Modern approach

10. Traditional approach
• In the traditional approach, investor's
needs in terms of income and capital
appreciation are evaluated and
appropriate securities are selected.
• It deals with two major decisions. They are:
• Determining the objectives of the
portfolio.
• Selection of securities to be included
in the portfolio.

12. 1. Analysis of Constraints
• The constraints normally discussed are:
• Regular Income
• Capital Appreciation
• Liquidity
• Safety of the investment
• Minimize the tax liability

13. 2. Determination of Objectives
• The return that the investor requires and the
degree of risk he is willing to take depend
upon the constraints.
• The objectives of portfolio range from
income to capital appreciation. The
common objectives are stated below,
• Current Income
• Growth in Income
• Capital Appreciation
• Preservation of capital

14. PORTFOLIO SELECTION

15. 3. Selection of Portfolio
• The selection of portfolio depends on the
various objectives of the investors.
• The selections of portfolio under different
objectives are dealt subsequently.
• Objectives and asset Mix
• Growth of income and asset mix
• Capital appreciation and asset mix
• Safety appreciation and asset mix
• Safety of principal and asset mix

16. 4. Assessment of Risk and return
• The traditional approach to portfolio
building has some basic assumptions.
• First, the individual prefers larger to
smaller returns from securities.
• To achieve this goal, the investor has to
take more risk.
• The risks are namely interest rate risk,
purchasing power risk, financial risk and
market risk.

17. 5. Diversification
• Once the asset mix is determined and the risk
and return are analyzed, the final step is
diversification of portfolio.
• Financial risk can be minimized by
commitments to top-quality bonds, but these
securities offer poor resistance to inflation.
• According to the investor's need for
income and risk tolerance level
portfolio is diversified.

18. Forms of the Diversification
• Diversification into different types of the
assets
• Diversification into different Instruments
• Diversification into different Industry Lines
• Diversification into different companies at
different growth levels

19. CAPITAL ASSET PRICING
MODEL (CAPM)

20. introduction
• It is one of the most important contributions
in finance and arguably the most widely used.
• According to the model, expected stock
returns are determined by their
corresponding level of systematic
risk BETA.
• Markowitz, William Sharp, John Lintner
and Jan Mossin provided the basic structure
for the CAPM model.

21. Meaning
• A model that describes the relationship
between risk and expected return and that
is used in the pricing of risky securities.

22. Assumptions of CAPM
• Market efficiency
• Risk aversion and mean-variance
optimization
• Homogeneous
• Risk – Free rate
• There is no transaction cost i.e. no cost
involved in buying and selling of stocks.

23. ConT….
• Assets are infinitely divisible. i.e. the investor
can even buy ten rupees worth of Reliance
Industry shares.
• There is no personal income tax.
• Unlimited quantum of short sales is allowed.
Any amount of shares an individual can sell
short.

24. Capital Market Line (CML)
•The CML represents linear
relationship between the
required rates of return for
efficient portfolios and their
standard deviations.

26. CONT…
• The line RS represents all possible
combination of riskless and risky asset.
• The 'S' portfolio does not represent any
riskless asset but the line RSf gives the
combination of both.
• The portfolio along the path RfS called
lending portfolio that is some money
is invested in the riskless asset or may
be deposited in the bank for a fixed rate of
interest.

27. CONT…
• If it crosses the point S, it
becomes borrowing portfolio.
Money is borrowed and invested in
the risky asset.
• The straight line is called capital
market line (CML). It gives the
desirable set of investment
opportunities between risk free
and risky investments.

28. Security Market Line (SML)
• The risk-return relationship of an
efficient portfolio is measured by the
capital market line.
• But, it does not show the risk-return
trade off for other portfolios and
individual securities.
• Inefficient portfolios lie below the
capital market line and the risk-return
relationship cannot be established with
the help of the capital market line.

29. CONT…
• Unsystematic risk can be diversified and it
is not related to the market.
• If the unsystematic risk is eliminated,
then the matter of concern is systematic
risk alone.
• This systematic risk could be measured by
beta.
• The beta analysis is useful for individual
securities and portfolios whether
efficient or inefficient.

31. Limitations of CAPM Model
• CAPM has the following limitations. They are,
• It is based on unrealistic limitations
• It is difficult to test the validity of
CAPM
• Betas do not remain stable over time.

32. MARKOWITZ MODEL
• Harry M. Markowitz is credited with
introducing new concepts of risk
measurement and their application to
the selection of portfolios.
• He started with the idea of risk
aversion’ of average investors and
their desire to maximize the
expected return with the least risk.

33. Cont…
• Markowitz model is thus a theoretical
framework for analysis of risk and return
and their inter-relationships.
• He used the statistical analysis for
measurement of risk and mathematical
programming for selection of assets in a
portfolio in an efficient manner.
• His framework led to the concept of efficient
portfolios.

34. Cont…
• An efficient portfolio is expected to yield
the highest return for a given level of risk
or lowest risk for a given level of return.
• Markowitz generated a number of portfolios within a
given amount of money or wealth and given
preferences of investors for risk and return.
• Markowitz emphasized that quality of a portfolio will
be different from the quality of individual assets
within it.

35. ASSUMPTIONS OF
MARKOWITZ THEORY
• The Modern Portfolio Theory of
Markowitz is based on the following
assumptions:
• Investors are rational and behave in a
manner as to maximize their utility
with a given level of income or money.
• Investors have free access to fair and
correct information on the returns and
risk.

36. Cont….
• The markets are efficient and absorb the
information quickly and perfectly.
• Investors are risk averse and try to minimize
the risk and maximize return.
• Investors base decisions on expected returns
and variance or standard deviation of these
returns from the mean.
• Investors prefer higher returns to lower returns
for a given level of risk.

37. Markowitz Diversification
• Markowitz postulated that diversification
should not only aim at reducing the
risk of a security by reducing its
variability or standard deviation.
• Markowitz theory of portfolio
diversification attaches importance to
standard deviation, to reduce it to zero,
so that the overall risk of the portfolio as
a whole is nil or negligible.

38. Parameters of Markowitz
Diversification
• Markowitz has set out guidelines for diversification
on the basis of the attitude of investors
towards risk and return and on a proper
quantification of risk.
• The investments have different types of risk
characteristics, some caused systematic and
unsystematic or company related risks.
• It involves a proper number of
securities, not too few or not too many
which have no correlation or negative

39. CONT…
• For building up the efficient set of portfolio, as
laid down by Markowitz.., we need to look into
these important parameters.
• Expected return.
• Variability of returns as measured by
standard deviation from the mean.
• Covariance or variance of one asset return to
other asset returns.
In general the higher the expected return, the lower
is the standard deviation or variance
and lower is the correlation the better
will be the security for investor choice.

40. 'Efficient Frontier'
• A set of optimal portfolios that offers
the highest expected return for a
defined level of risk or the lowest risk
for a given level of expected return.
• Portfolios that lie below the efficient
frontier are sub-optimal, because they
do not provide enough return for the
level of risk.

42. WHAT IS MEANT BY UTILITY
ANALYSIS?
• Utility is the satisfaction the investor
enjoys from the portfolio return.
• An ordinary investor is assumed to receive
greater utility from higher return and vice-
versa.
• The investor gets more satisfaction
or more utility in X + 1 rupees than
from X rupee.
• Thus, utility increases with increase in
return.

43. PORTFOLIO REVISION

44. What is meant by Portfolio Revision?
• The portfolio management process
needs frequent changes in the
composition of stocks and bonds.
• In securities, the type of securities to be
held should be revised according to the
portfolio theory.
• If the policy of investor shifts from
earnings to capital appreciation,
the stocks should be revised
accordingly.

45. methods used for Portfolio Revision
• Passive Management
• Active management
• The formula plans
• Rupee cost averaging
• Constant Rupee Plan
• Constant Ratio Plan
• Variable Ratio Plan

46. Constraints in Portfolio Revision
• There are so many constraints disturbing
the process of portfolio revision. Some
of such constraints are described below.
• Transaction Cost
• Income Tax
• Time Consuming

47. Strategies for Portfolio Revision
• Generally, different strategies are
adopted for portfolio revision.
They are
• Active Revision Strategy
• Passive Revision Strategy

48. SWAPS
• Swap is a contract between two
parties to exchange a set of
cash flows over a pre-
determined period of time.
• The two parties are known as counter
parties.
• The agreement means that A has sold
stocks and bought bonds while B has
sold bonds and bought stocks.

49. Cont…
• Here, they have restricted their
portfolios without the
transaction costs, even though
they have to pay the swap fee
to the swap bank that set up
the contract between two
parties.

50. MUTUAL FUNDS

51. What is meant by Mutual funds?
• Mutual fund is a vehicle that pools
together funds from investors to
purchase stocks, bonds or other
securities.
• An investor can participate in the
mutual fund by buying the units
of the fund.

52. Cont…
•Mutual funds are investment
companies that use the funds
from investors to invest in other
companies or investment
alternatives.
• They have the advantage of
professional management,
diversification.

53. Classification of mutual fund
schemes
1. Open ended Funds
2. Close – Ended Funds
3. Interval Funds

54. PORTFOLIO
EVALUATION

55. introduction
• Portfolio manager evaluates his portfolio
performance and identifies the sources
of strength and weakness.
• The evaluation of portfolio provides
a feedback about the performance to
evolve better management strategy.
• Even though evaluation of portfolio performance
is considered to be the last stage of investment
process, it is a continuous process.
• The managed portfolios are commonly known as
Mutual funds.

56. Meaning
• Investment analysts and portfolio
managers continuously monitor
and evaluate the results of their
performance.
• The revision of portfolio investments
is made on the basis of such
monitoring and evaluation.

57. Cont….
• Portfolio Managers should have the ability to
• Perceive the market trends
correctly and make correct
expectations and estimates
regarding risk, returns,
• Ability to make proper
diversification to reduce the
company related risk and
• Use proper Beta estimates for
selection of securities to reduce
the systematic risk.

58. Cont…
• While evaluating the performance,
he has to consider two major factors
such as return achieved and the
level of risk that the portfolio is
exposed to.
• The Manager has to make proper
diversification into different
industries, asset classes and
instruments in order to reduce the
unsystematic risk.

59. models used for Portfolio Evaluation
• Sharpe and Jack Treynor haiove proposed the methods
of measuring the reward per unit of risk in their
pioneering work on evaluation of portfolio performance.
• There are three ratios will use for evaluation of the
Portfolio Performance. They are,
• Sharpe Ratio
• Treynor Ratio
• Jensen Measure

60. SHARPE’S PERFORMANCE
INDEX
• The performance measure developed by
William Sharpe is known as the Sharpe
ratio.
• It is also known as the reward to
variability ratio. Sharpe’s performance
index gives a single value to be used for
the performance ranking of various funds
or portfolios.
• Sharpe index measures the excess
return earned on a portfolio per unit of
its total risk.

61. Cont…..
• The Sharpe measure is similar to the Treynor
measure except that it employs standard
deviation, not beta, as the measure of risk.
• The formula for calculating Sharpe ratio is as follows:
Portfolio average return – Risk free rate of interest
• Sharpe Index = ----------------------------------------- ----------------------------
Standard deviation of the portfolio return
R p - R f
S t = --------------
σ p

62. TREYNOR’S PERFORMANCE
INDEX
• The performance measure developed by
Jack Treynor is called as Treynor ratio.
• According to this Systematic Risk or
Beta is the appropriate measure of
Risk.
• This relates the excess return on a
portfolio to the portfolio beta.

63. Cont….
Beta co-efficient is treated as a measure of
undiversifiable systematic risk. The formula is,
Portfolio average return –
Risk free rate of interest
• Sharpe Index = -----------------------------------------
Beta co-efficient of portfolio
R p - R f
S t = --------------
β p

64. JENSEN’S PERFORMANCE
INDEX
• Another type of risk adjusted
performance measure has been
developed by Michael Jensen, Which
is known as the Jensen measure or ratio.
• This ratio attempts to measure the
difference between the actual
return earned on a portfolio and
the return expected from the
portfolio given its level of risk.

65. Cont….
• The basic model of Jensen is given
below
R p = ά + β (R m - R f )

66. Unit- V Completed

67. The End