PORTFOLIO

MANAGEMENT
G RO UP 3
PORTFOLIO
RISK
PORTFOLIO
RISK
 PORTFOLIO RISK
• Refers to the potential for loss or variability
in returns faced by an investor holding a
collection of financial assets.
• It arises from the uncertainty associated
with the individual components of the
portfolio and how they interact with each
other.
KEY CONCEPTS OF
PORTFOLIO RISK
• Systematic Risk - inherent to the entire
market, rather than a particular stock or
industry sector.
• Unsystematic Risk - unique to a specific
company or industry.
• Total Risk - an assessment that identifies
all the risk factors associated with pursuing
a specific course of action
WHY MANAGING PORTFOLIO IS
IMPORTANT?
• Reduces the likelihood of large losses.
• Balances the pursuit of returns with the
investor's risk tolerance.
• Provides a structured way to achieve
long-term financial goals.
PORTFOLIO
THEORY
 PORTFOLIO THEORY
• Modern Portfolio Theory (MPT), was introduced by
Harry Markowitz in 1952.
• It provides a framework for investors to build portfolios
that maximize expected returns for a given level of risk
by carefully selecting and combining different assets.
• The primary goal of portfolio theory is to help investors
diversify their investments in such a way that the
portfolio's overall risk is reduced without sacrificing
returns.
 APPLICATION OF
PORTFOLIO THEORY
1. Asset Allocation:
• Investors use portfolio theory to determine how to distribute their
investments across different asset classes (stocks, bonds, real estate,
etc.) to achieve the best risk-adjusted returns.
2. Risk Management:
• Portfolio theory provides a structured way to assess and manage risk by
combining assets with varying levels of risk and correlation.
3. Performance Evaluation:
• Investors can evaluate the performance of their portfolios by
comparing them to the efficient frontier to determine if they are
maximizing returns for risk taken.
 BENEFITS OF
PORTFOLIO THEORY
• Risk Reduction: Diversification spreads out unsystematic
risk, lowering the overall risk of the portfolio.
• Efficient Decision-Making: Helps investors make informed
decisions about asset allocation and risk management.
• Maximizing Returns: Guides investors in constructing
portfolios that aim to maximize returns for a given level of
risk.
CONCEPT OF BETA
(SYSTEMATIC RISK)
&
CONCEPT OF ALPHA
(UNSYSTEMATIC RISK)
CONCEPT OF BETA
(SYSTEMATIC RISK)
CONCEPT OF BETA
(SYSTEMATIC RISK)
- A measure of risk commonly used to
compare the volatility of mutual funds or stock
to the overall market.

- Indicates how risky a stock is if the stock is

held in a well-diversified portfolio.

- Average relationship between a stock’s

return and the market’s returns.
INTERPRETATION
 INTERPRETATION
• If Beta = 1: If the stock's Beta was equal to one, the stock has the same
risk level as the stock market. If the market rises by 1%, the stock will
also rise by 1%, and if the market comes down by 1%, the stock will also
come down by 1%.
• If Beta > 1: If the Beta of the stock is greater than one, then it implies a
higher level of risk and volatility than the stock market. Though the
stock price change will be the same; however, the stock price
movements will be rather extreme.
• If Beta >0 and Beta<1: If the stock's Beta is less than one and greater
than zero, it implies the stock prices will move with the overall market;
however, the stock prices will remain less risky and volatile.
FORMULA
Step 1: Solve for the Covariance
Cov(X, Y) = Σ[(Xi - X)(Yi - Ȳ)] / (n - 1)

COVARIANCE = 0.0109333
• Obtain the data
• Calculate the mean (average) prices
• For each security, find the difference between each value and mean price
• Multiply the results obtained in the previous step
• Using the number calculated in step 4, find the covariance
Step 2: Solve for the Variance
VAR = σ²m / n-1

VARIANCE = 0.0059067
Step 3: Solve for Beta

Beta = Covariance/Variance
= 0.0109333 / 0.0059067

Beta = 1.85

A beta of 1.85 indicates that the stock is 1.85 times

more volatile than the overall market. In other
words, it tends to fluctuate more significantly in
price compared to the market average.
CONCEPT OF ALPHA
(UNSYSTEMATIC RISK)
 CONCEPT OF ALPHA
(UNSYSTEMATIC RISK)
• A term used in investing to describe an
investment strategy’s ability to beat the market.
• Alpha is a term used in finance when describing
by how much percentage the return on
investment outperformed the market's
benchmark. It is sometimes referred to as "excess
returns.“
• Alpha is often used to evaluate the performance
of investment managers and funds.
INTERPRETING ALPHA RESULTS
POSITIVE ALPHA:
A positive alpha indicates that the portfolio has
outperformed the benchmark, generating excess
returns.

NEGATIVE ALPHA:
A negative alpha indicates that the portfolio has
underperformed the benchmark. This could be due
to poor investment choices, high fees, or other
factors.
 FORMULA

WHERE:
R represents the portfolio return

Rf represents the risk-free rate of return

Beta represents the systematic risk of a portfolio

Rm represents the market return, per a
benchmark
 EXAMPLE SCENARIO:
You're considering investing in two mutual funds, Fund A and
Fund B. Both funds have similar investment objectives, but their
performance has been different over the past five years.
Here's the data:

Fund A:

•Portfolio Return: 10% Market Return: 11%

•Beta: 1.2

•Fund B: Risk-Free Rate: 3%

•Portfolio Return: 8%
•Beta: 0.9
 CALCULATING ALPHA:
Fund A:
• Alpha = 10% - 3% - (1.2 * (11% - 3%))
• Alpha = 7% - (1.2 * 8%)
• Alpha = 7% - 9.6%
• Alpha = -0.4%

This means Fund A underperformed the market, considering its

risk level (beta).

Fund B:
• Alpha = 8% - 3% - (0.9 * (11% - 3%))
• Alpha = 5% - (0.9 * 8%)
• Alpha = 5% - 7.2%
• Alpha = -0.2%
CAPITAL ASSET
PRICING MODEL
CAPITAL ASSET PRICING
MODEL
A generalized framework for analyzing the
relationship between risk and return is a
central issue in the theory of finance. The
CAPM analyzes how assets are priced.
THE FOLLOWING ARE THE ASSUMPTIONS OF CAPM:
a) Investors are expected maximizers of terminal wealth
b) Investors can borrow and lend at the risk-free rate;
c) Investors have homogeneous expectations;
d) No taxes, no transaction cost.

FORMULA FOR CAPM:

 EXAMPLE 1:
Imagine an investor is contemplating a stock worth $100 per share today that
pays a 3% annual dividend. The stock has a beta compared to the market of 1.3,
which means it is riskier than a market portfolio. Also, assume the risk-free rate
is 3% and this investor expects the market to rise in value by 8% per year.

SOLUTION:
Re = rf + ß x (rm - rf)
= 3% + 1.3 x (8% - 3%)
= 3% + 1.3 x (5%)
= 3% + 6.5%
Re = 0.095 or 9.5%

Therefore, the expected return of the stock based on the CAPM

formula is 9.5%.
 EXAMPLE 2:
The market is currently expected to generate a return of 7% during the next
year, while the 10-year treasury bills are trading 4% per annum. The stocks
have a beta of 1.5 when compared to the market. Calculate the expected rate
of return based on the capital asset pricing model.

SOLUTION:
Re= rf + ß x (rm - rf)
= 4% + 1.5 x (7% - 4%)
= 4% + 1.5 x (3%)
= 4% + 4.5%
Re = 0.085 or 8.5%

Therefore, the expected return of the stock based on the CAPM

formula is 8.5%.
PORTFOLIO
MANAGEMENT
 PORTFOLIO
MANAGEMENT
PORTFOLIO MANAGEMENT
Goal: Maximize returns while minimizing risks aligned
with the investor's preferences.

Portfolio management selects and manages

investments to meet long-term financial goals and risk
tolerance. It involves balancing debt vs. equity, domestic
vs. international assets, and growth vs. safety. It also
involves selecting and overseeing investments that meet a
client's long-term financial objectives while balancing risks
and returns. There are two main styles:
 1 STYLE
st
PASSIVE MANAGEMENT
A long-term, "set-it-and-forget-it" approach, often using
index funds to track the market. This is commonly referred
to as indexing or index investing. Those who build Indexed
portfolios may use modern portfolio theory (MPT).

WHAT IS MODERN PORTFOLIO THEORY?

A critical theory in portfolio management, developed by
Harry Markowitz, suggests that investors can maximize
returns by investing in a diversified portfolio with an optimal
balance between risk and return.
 2 ND STYLE

ACTIVE MANAGEMENT
Actively buying and selling investments to
outperform the market, often using detailed
analysis.
INVESTMENT LIFE CYCLE PHASES
1 CYCLE: ACCUMULATION PHASE
ST

Individuals in their working careers' early to middle

years are in this phase. Here, investors accumulate
assets to satisfy fairly immediate and long-term needs
like a home down payment or savings for children's
college or retirement savings; individuals in the
accumulation phase are typically willing to make
relatively high-risk investments to make above-
average nominal returns over time.
INVESTMENT LIFE CYCLE PHASES
2ND CYCLE: CONSOLIDATION PHASE

In mid-career, debts (children's college bills,

house downpayment, and car) are paid. Excess
income is invested for future needs, with a
balanced approach to risk. Moderately high-risk
investments are attractive. The typical investment
horizon for this phase is still long (20 to 30 years).
INVESTMENT LIFE CYCLE PHASES
3 CYCLE: SPENDING PHASE
RD

Usually begins when individuals retire; living

expenses are covered by Social Security income
and income from prior investments, including
employment pension plans. Because their earning
years have concluded, they are very conscious of
protecting their capital.
INVESTMENT LIFE CYCLE PHASES
4 CYCLE: GIFTING PHASE
TH

This phase may be concurrent with the

spending phase. In this stage, individuals may
believe they have sufficient income and assets to
cover their current and future expenses while
maintaining a reserve for uncertainties. Investors
may support others financially or set up charitable
trusts.
PORTFOLIO
OBJECTIVES
PORTFOLIO OBJECTIVES
The objectives of portfolio management apply
to all financial portfolios. These objectives, if
considered, result in a proper analytical approach
towards the portfolio's growth. A good portfolio of
growth stocks often satisfies all portfolio
management objectives.
KEY OBJECTIVES IN MANAGING
PORTFOLIOS INCLUDE:
1. Security of Principal Investment: Investment safety or
minimization of risks is one of the most critical objectives
of portfolio management. Investors should prioritize
safety before focusing on growth or income.
2. Consistency of Returns: Portfolio management also
ensures the stability of returns by reinvesting the same
earned returns in profitable and promising portfolios.
The portfolio helps to yield steady returns.
3. Capital Growth: Choosing investments that appreciate
value over time to safeguard the investor from any
decline in purchasing power due to inflation and other
economic factors.
KEY OBJECTIVES IN MANAGING
PORTFOLIOS INCLUDE:
4. Marketability: It is always recommended to invest only in
those shares and securities that are listed on major stock
exchanges and are actively traded. A portfolio with many
unlisted or inactive shares is an automatic red flag.
5. Liquidity: The portfolio should always ensure enough
funds are available at short notice to take care of the
investor’s liquidity requirements.
6. Diversification: Portfolio management is designed to
reduce the risk of capital and income loss by investing in
different types of securities available in various industries.
There is nothing like "zero risk."
7. Favorable Tax Status: Optimizing returns by minimizing
tax burdens.
 PORTFOLIO
MANAGEMENT
PROCESS
PORTFOLIO MANAGEMENT
PROCESS
The process of managing an investment
portfolio never stops. Once the funds are initially
invested according to the plan, the emphasis
changes to evaluating the portfolio's performance
and updating the portfolio based on changes in the
economic environment and the investor's needs.
 1 STAGE: PLANNING
ST

THIS CRUCIAL PHASE SETS THE FOUNDATION FOR PORTFOLIO

MANAGEMENT. IN INVOLVES:
• Identifying Objectives and Constraints: Defining what
the client aims to achieve (returns, risk tolerance) and
any restrictions they face.
• Investment Policy Statement: Documenting these
objectives and constraints in a clear policy.
• Capital Market Expectations: Forecasting future market
trends, risks, and returns to guide portfolio decisions.
• Asset Allocation Strategy: Combining the investment
policy with market expectations to determine long-term
allocation across different asset classes (like stocks,
bonds, etc.).
 2 STAGE: EXECUTION
ND

AFTER PLANNING, THE FOCUS SHIFTS TO PUTTING THE PLAN

INTO ACTION:

• Portfolio Selection: Choosing specific assets

based on the strategy and market outlook.
• Portfolio Implementation: Buying or selling
investments efficiently to minimize costs like
fees and taxes, ensuring timely and well-
executed transactions.
 3 STAGE: FEEDBACK
RD

THIS PHASE ENSURES THE PORTFOLIO STAYS ALIGNED WITH ITS

GOALS:
• Monitoring and Rebalancing: Regularly
reviewing the portfolio’s risk levels and
performance. Adjustments are made if
market conditions or the investor’s
circumstances change, considering tax and
transaction costs.
• Performance Evaluation: Assessing how
well the portfolio meets its objectives by
comparing both absolute and relative returns.
 "The best investment you can make is in
yourself. The more you learn, the more you earn."
– Warren Buffett
 ASSET
ALLOCATION
ASSET ALLOCATION
It is the process of dividing the
money in your investment portfolio
among stocks, bonds and cash. It is
how investors divide their portfolios
among different assets that might
include equities, fixed-income
assets, and cash and its equivalents.
3 MAIN ASSET CLASSES
1. Equity (stocks) - Shares of ownership in a
company, offering potential for growth and
dividends but with higher volatility.
2. Fixed Income (Bonds) - Debt securities that pay
interest over time and return the principal at
maturity, generally offering lower risk
compared to equities.
3. Cash and Cash Equivalents - Highly liquid
assets like savings accounts, money market
funds, and Treasury bills, which offer low
returns but high stability and liquidity.
3 MAIN ASSET CLASSES
1. Stocks:
• Risk: High
• Return: Potentially high
• Role: Growth
2. Bonds:
• Risk: Moderate
• Return: Moderate
• Role: Income and stability
3. Cash and Cash Equivalents:
• Risk: Low
• Return: Low
• Role: Safety and liquidity.
FACTORS IN ASSET ALLOCATION
1. Investment Goals - Define what you are investing
for, such as retirement, a major purchase, or
education, and how long you have to achieve
these goals.
2. Risk Tolerance - Assess your willingness and
ability to endure market volatility. This often
depends on your financial situation, investment
horizon, and psychological comfort with risk.
3. Time Horizon - The length of time you plan to hold
investments before needing to access the funds
influences how you allocate assets. Longer time
horizons typically allow for more risk-taking.
 WHY IS IT IMPORTANT?
1. Risk Management - Diversifying investments across
different asset classes helps reduce the overall risk of
the portfolio. If one asset class underperforms, others
may offset those losses, minimizing the impact on your
total investment.
2. Return Optimization - Different asset classes tend to
perform differently under various market conditions. A
well-structured asset allocation can help capture returns
across different environments and improve the potential
for overall returns.
3. Align with Goals and Risk Tolerance - Asset allocation
can be tailored to fit your financial objectives, time
horizon, and risk tolerance. This ensures that your
investment strategy aligns with your personal financial
situation and goals.
ARBITRAGE
PRICING
THEORY
ARBITRAGE PRICING
THEORY
In 1976, economist Stephen Ross
developed the arbitrage pricing theory
(APT) as an alternative to the CAPM.

Asset pricing theory is a model that says an

asset's returns can be forecasted using the
linear relationship of the expected returns
of an asset and macroeconomic factors
affecting the risk of the asset.
Arbitrage pricing theory (APT) is a multi-factor asset pricing model based on the idea
that an asset's returns can be predicted using the linear relationship between the
asset’s expected return and a number of macroeconomic variables that capture
systematic risk.
A macroeconomic factor is a phenomenon, pattern, or condition that emanates from,
or relates to, a large aspect of an economy rather than to a particular population.
Inflation, gross domestic product (GDP), national income, and unemployment levels are
examples of macroeconomic factors.
FORMULA
EXAMPLE
KEY DIFFERENCES BETWEEN
CAPM AND APT
FOUNDATION
CAPM APT
• Based on the idea of a • Provides a more flexible
single-period model and less restrictive
where investors are approach compared to
rational, and markets CAPM.
are efficient. • It is based on the idea of
arbitrage opportunities.
 KEY DIFFERENCES BETWEEN
CAPM AND APT
ASSUMPTIONS
CAPM: APT:
• Investors have homogeneous • Markets are competitive, and
expectations. arbitrage opportunities are
• Markets are frictionless with no taxes exploited.
or transaction costs. • The returns on assets are
• All investors can diversify away all influenced by multiple
unsystematic risk. macroeconomic factors.
• There is a risk-free rate at which • The model does not require a
investors can borrow or lend. risk-free rate or assumptions
• Asset returns are normally about investor preferences.
distributed.
KEY DIFFERENCES BETWEEN
CAPM AND APT
CONCEPT
CAPM APT
• Establishes a linear • Asserts that the return
relationship between on an asset is a linear
the expected return function of several
of an asset and its macroeconomic
systematic risk factors.
(measured by beta).
KEY DIFFERENCES BETWEEN
CAPM AND APT
FORMULA

• CAPM:

• APT:
PORTFOLIO
MAINTENANCE
 PORTFOLIO
MAINTENANCE
PORTFOLIO MAINTENANCE
Involves strategies to safeguard your
investments from significant losses,
especially during market downturns.

IMPORTANCE
It is about ensuring that the portfolio remains aligned
with its objectives, performs optimally, and adapts to
changes and challenges over time.
 PORTFOLIO MAINTENANCE INCLUDES;
• Rebalancing - refers to adjusting the proportions of
different assets in your portfolio to maintain your desired
asset allocation.
• Performance Monitoring - tracking the performance of
investment and the portfolio as a whole to ensure they
align with your goals.
• Tax efficiency - refers to the strategy of managing
investments in a way that minimizes the amount of taxes
owed, thereby maximizing your after-tax returns.
• Risk management - involves strategies to minimize
potential losses and manage volatility while striving for
your investment goals.
PORTFOLIO PROTECTION
Involves strategies to safeguard your investments
from significant losses, especially during market
downturns.
COMMON METHODS INCLUDE:
• Diversification - Spread investments across different asset
classes to reduce the impact of a poor-performing asset.
• Hedging - Use financial instruments like options or futures to
offset potential losses.
• Stop-Loss Orders - Set predefined price points to
automatically sell investments if they fall below a certain level.

NOTE: Portfolio protection and portfolio maintenance are related but

distinct concepts
 PORTFOLIO MANAGEMENT IN
THE PHILIPPINES
Involves overseeing and making decisions
about investments to meet financial goals.

CURRENT SITUATION:
• Growing Market
• Increased Interest in Investments
• Expansion of Financial Products
• Regulation and Transparency
• Technological Advancement
 STOCK
SIMULATOR
 STOCK
SIMULATOR
 FUNDAMENTAL ANALYSIS
Fundamental analysis involves studying the financial health of a
company and broader economic indicators to estimate the fair
value of its stock.

OBJECTIVE:
To identify whether a stock is undervalued or overvalued by the
market. Investors use this analysis to make informed decisions
about buying, holding, or selling stocks.
 KEY ASSUMPTIONS OF
FUNDAMENTAL ANALYSIS
1. The Market is Not Always Efficient - Sometimes the market does not
price stocks correctly, meaning a stock’s price can be too high or too low
in the short term. This inefficiency creates opportunities for investors.
2. Intrinsic Value is Real - Every asset (e.g., stocks) has an intrinsic value,
which can be calculated based on various internal and external factors.
The price may fluctuate, but over time it gravitates towards this intrinsic
value.
3. Long-Term Focus - Fundamental analysis is designed for long-term
investors. Short-term traders may not find it as useful since it does not
predict short-term price movements.
 THREE CORE COMPONENTS OF
FUNDAMENTAL ANALYSIS
1. Economic Analysis
• Macroeconomic Factors: These include interest rates, inflation,
unemployment rates, and GDP growth. Economic health
affects consumer behavior, business performance, and in turn,
the stock market.
2. Industry Analysis
• Industry Trends: You need to understand how an industry is
performing. Factors like demand growth, competition, and
regulation can impact the overall profitability of companies
within the industry.
 THREE CORE COMPONENTS OF
FUNDAMENTAL ANALYSIS
3. Company Analysis
• Financial Statements: Analyze the company’s income
statement, balance sheet, and cash flow statement to
understand its financial health.
• Qualitative Factors: Look at factors like leadership quality,
competitive advantage (moat), and brand strength.
 KEY FINANCIAL RATIOS OF
FUNDAMENTAL ANALYSIS
Financial ratios are the backbone of fundamental analysis.
They help quantify a company’s performance.

1. Price-to-Earnings (P/E) Ratio:

Formula: P/E = Price per Share / Earnings per Share (EPS)
Meaning: It tells you how much investors are willing to pay per dollar of
earnings. A high P/E might indicate the stock is overvalued, while a low
P/E might suggest it’s undervalued.
 KEY FINANCIAL RATIOS OF
FUNDAMENTAL ANALYSIS
2. Price-to-Book (P/B) Ratio:
Formula: P/B = Market Price per Share / Book Value per Share
Meaning: A lower P/B ratio could mean the stock is undervalued, or the
company is facing challenges. A higher ratio might suggest the stock is
overvalued or performing well.
3. Return on Equity (ROE):
Formula: ROE = Net Income / Shareholders’ Equity
Meaning: This ratio measures how effectively a company is using
shareholders’ money to generate profit. Higher ROE means a company is
more efficient.
 KEY FINANCIAL RATIOS OF
FUNDAMENTAL ANALYSIS
4. Dividend Yield:
Formula: Dividend Yield = Annual Dividends per Share / Price per Share
Meaning: It shows the percentage of return an investor will receive
from dividends relative to the stock price. High yield means higher
returns from dividends.
 APPLICATION: HOW TO CONDUCT
FUNDAMENTAL ANALYSIS
Step 1: Analyze the Economy: Look at key indicators like inflation or interest
rates to understand the broader economic conditions.
Step 2: Analyze the Industry: Study the trends, risks, and growth potential of
the industry in which the company operates.
Step 3: Analyze the Company: Dive deep into the company’s financials—
profitability, debt levels, and revenue growth. Consider both financial data and
qualitative factors like the company's leadership and competitive advantages.
Step 4: Compare Valuations: Use ratios like P/E or P/B to compare the
company with its competitors. This helps determine whether the stock is
overvalued or undervalued relative to its peers."
 WHY FUNDAMENTAL ANALYSIS
IS IMPORTANT?
• Long-Term Growth:
Fundamental analysis helps investors find stocks that are likely to grow
steadily over time by focusing on real-world data.
• Understanding Value:
Instead of being swayed by market sentiment or price fluctuations,
fundamental analysis gives you a rational framework for understanding
the true value of a company.
• Investment Strategy:
It’s a powerful tool for those looking to build a solid, diversified portfolio
based on strong financial foundations rather than speculation.
 PORTFOLIO
MANAGEMENT
GROUP 3
ALBARICO, JERICK
AZUCENA, JOHN REY ALISER, KIMBERLY
CODILAN, CHRISTIAN DON BAYOCBOC, CHARMAINE
INTO, KENT IBRAHIM, RAZNA
QUIMADO, FRITZ JOSHUA MARCIANO, SHELI CRIS MAE
RODRIGUEZ, HARLEY SOCIAS, LENIE
VAQUILAR, JOHN NESTOR