Understanding Investment Portfolio & Management

Meaning of Portfolio

• A portfolio is a combination of financial securities like:
  • Shares
  • Debentures
  • Government bonds
  • Units
  • Other financial assets
• An investment portfolio includes various assets investors consider as a unit.
• Portfolios are carefully blended asset combinations within a unified framework, and not just collections of unrelated assets.

Portfolio Management

• Portfolio management involves selecting securities and constantly adjusting portfolios based on how attractive the portfolio's components are.
• It includes choosing and revising a range of securities based on investor characteristics.

Portfolio Management Process

• Identify investor objectives, constraints, and preferences to formulate an investment policy.
• Develop and implement strategies in line with investment policy.
• Select asset classes and securities based on their risk-return attributes
• Review and monitor portfolio performance by continuously overviewing market conditions and company performance
• Evaluate the portfolio in relation to targets and adjust for the future.

Objectives of Portfolio Management

• The main goal is to maximize yield and minimize risk.
• Other goals are as follows:
  • Stability of income:
    • Investors want stable investment income.
    • They also want purchasing power stability.
  • Capital growth:
    • Capital appreciation is an important investment principle.
    • Investors pursue growth stocks in order to achieve significant capital appreciation through rights, bonuses, and market share price increases.
  • Liquidity:
    • Investments are liquid assets
    • Investments need to be liquid and marketable and should contain a planned proportion of high grade and readily saleable investment.
  • Safety:
    • Safety means protecting investments from loss under normal conditions.
    • It requires careful analysis of the market and industry trends, broad diversification is needed because errors happen.
  • Tax incentives:
    • Investors want to minimize tax liabilities from investment.
    • Portfolio managers need to maintain a list of investment options, their risk/return profiles, tax implications, and yields.

Selection of Asset Mix

• Asset mix means categorizing all assets within a fund or portfolio.
• Core asset classes:
  • Stocks (equities)
  • Bonds (fixed income)
  • Cash
  • Real estate
• Other asset classes:
  • Commodities
  • International investments
  • Hedge funds
  • Limited partnership interests
• Asset mix is the percentages of each asset class in the total market value of the portfolio.
• It determines the fund's risk/reward profile and long-term performance.
• Based on objectives and constraints, specify asset allocation, which means deciding how much of portfolio to be invested in these asset categories:
  • Cash
  • Bonds
  • Stocks
  • Real estate
  • Precious metals

Objectives and Asset Mix

• If objective is getting adequate current income, 60% of the investment is debt instruments and the remainder is equity.
• Proportion varies according to individual preference.
• Growth of income and asset mix:
  • Investors want a certain percentage of growth from invested capital.
  • Equity proportion varies from 60 to 100%, debt from 0 to 40%.
  • Debt minimizes risk and provides tax exemption.
• Capital appreciation and asset mix:
  • The value of the investment increases over the year.
  • Real estate can give faster capital appreciation, but the problem is of liquidity.
  • In the capital market, share value is much higher than the original issue price.
• Safety of principle and asset mix:
  • Risk-averse investors are concerned about principal stability.
  • Older people are usually more sensitive towards safety.
• Risk and return analysis:
  • The traditional approach of portfolio building has basic assumptions
  • Investors want higher returns at lower risk.
  • Greater risk means greater return.
  • The investor needs to consider risk-taking capability and desired returns.
• Diversification:
  • After the asset mix is determined, the next step is to diversify the portfolio.
  • The primary benefit of diversification is minimizing unsystematic risk.

Selection of Portfolio

• Certain assumptions of the traditional approach for portfolio selection:
  • Investors prefer larger instead of smaller returns from securities and take more risk.
  • Ability to achieve higher returns depends upon investor's judgement of risk.
  • Spreading money among many securities can reduce risk.