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Introduction to Risk, Return and Portfolio

Management

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 Module 1: Introduction to Risk,
Return and Portfolio Management
Dr. Mrunal Joshi
Assistant Professor,
B.R.C.M. College of Business Administration
Contents of the Module
● Concept of Investment (Revision from Financial Literacy)
● Concept of Risk and Return (Revision from Financial Literacy)
● Calculation of Realised return and Expected Return
● Calculation of Risk (Standard Deviation, Alpha and Beta)
● Meaning of Portfolio and Diversification
● Types and forms of Diversification
● Concept of Mutual Fund as a well-diversified Portfolio
● Phases of Portfolio Management
● Security Analysis: Concepts of Fundamental Analysis, Technical Analysis
and Efficient Market Hypothesis

Dr. Mrunal Joshi B.R.C.M. College of Business

Concept of Investment (Revision from Financial Literacy)

Dr. Mrunal Joshi B.R.C.M. College of Business

Concept of Risk and Return (Revision from Financial Literacy)

Dr. Mrunal Joshi B.R.C.M. College of Business

Calculation of Return
Return is generally measured in form of percentage(Important aspect about
this percentage is that it should be annualized). For example if we have
purchased security at Rs. 100 received dividend of Rs. 10 and after one year
investor has sold that security at Rs. 105 than his return percentage will be as
follow.

Total Realised Return Percentage =

(Income + Price change)*100/Purchase Price

Hence in this case Realises Return Percentage =

[10+(105-100)*100]/100 = 15%

Dr. Mrunal Joshi B.R.C.M. College of Business

• For calculation of expected return we need to consider past
data.
• On the basis of that we can use statistical techniques i.e. central
tendency to predict future return.
• In central tendency basically we can use mean value of past
return.
• For calculation we have two types mean generally we can use:
Arithmetic Mean and Geometric Mean.
• Arithmetic Mean or average = X(Mean) = ∑xi/n
– If probability is given, Mean = ∑xi.pi
• Geometric Mean G =
[(1+R1)(1+R2)(1+R3)…….(1+Rn)]1/n – 1
Dr. Mrunal Joshi B.R.C.M. College of Business
Calculation of Risk
Expected returns are insufficient for decision-making. The risk aspect should
also be consider.

The most popular measure of risk is the variance or standard deviation

or

if probability is given

Dr. Mrunal Joshi B.R.C.M. College of Business

 Stock Return

Slop = Beta

Beta

Alpha

Market Return (or Market index)

Dr. Mrunal Joshi B.R.C.M. College of Business
Alpha (𝜶)
𝜶 or Alpha is the distance between the horizontal axis and line’s intersection
with y-axis. It measures the unsystematic risk of the company. If a is a positive
return, then that scrip will have higher returns. If a = 0, then the regression
line goes through the origin and its return simply depends on the Beta times
the market return
Beta (𝞫)
𝞫 or Beta describes the relationship between the stock’s return and the
Market index return. This can be positive and negative. It is the percentage
change in the price of the stock regressed (or related) to the percentage
changes in the market Index. If Beta is 1, a one percentage change in Market
index will lead to one percentage change in price of the stock. If Beta is zero,
stock price is unrelated to the Market index.

Dr. Mrunal Joshi B.R.C.M. College of Business

Systematic and Unsystematic Risk
Systematic risk is the variability in security returns caused by changes in the
economy or the market.

The average effect of a change in the economy can be represented by the

change in the stock market index.

The systematic risk of security is measured by a statistical measure called

Beta.

Two methods to calculate Beta, correlation method or regression method

Dr. Mrunal Joshi B.R.C.M. College of Business

The Correlation method:

rim = correlation coefficient between the returns of

stock I and the returns of the market index.
σi = standard deviation of returns of stock i.
σm = standard deviation of return of the market index
σ2m = variance of the market returns

Dr. Mrunal Joshi B.R.C.M. College of Business

The regression method:

Y = Dependent variable.
X = Independent variable.
𝜶 and 𝞫 are constants.

Dr. Mrunal Joshi B.R.C.M. College of Business

n = Number of items
Y bar = Mean value of the dependent variable scores
X bar = Mean value of independent variable scores.
Y = Dependent variable scores (stock return)
X = Independent variable scores (market return)

Dr. Mrunal Joshi B.R.C.M. College of Business

Portfolio and Portfolio Management
Portfolio is group of securities considered for the investment. It is basket of
investment or assets held by an individual or a corporate body, or any
economic unit.

Portfolio management deals with the analysis of individual securities as well

as with the theory and practice of optimally combining securities into
portfolio. Portfolio management comprises all the processes involved in the
creation and maintenance of an investment portfolio. It deals specifically with
security analysis, portfolio analysis, portfolio selection, portfolio revision and
portfolio evaluation.

Dr. Mrunal Joshi B.R.C.M. College of Business

Meaning and Concept: Diversification
It is a technique of reducing the risk involved in investment
and in portfolio management.
It is a process of conscious selection of assets, instruments
and scripts of companies / Government securities, in a
manner that the total risks are brought down.
The risk which can be diversified is “Unsystematic Risk”

Dr. Mrunal Joshi B.R.C.M. College of Business

Forms of Diversification
• Into different types of assets, like gold, real estate,
Government securities, corporate securities etc.
• Into different instruments or security type bonds, stocks,
debentures, Government securities etc.
• Into different industry lines, namely, plastics, chemicals,
engineering, cement, steel, fertilizers, etc.
• Into different scrips of companies viz., new companies,
growing companies, new product companies etc.

Dr. Mrunal Joshi B.R.C.M. College of Business

Methods of Diversification
1. Randomness in Selection of Companies and
Industries
– Placing companies in any order and pick up in
random manner
– Statistical error will come down
2. Optimum of Selection of process
– Optimum number of companies for a given amount
of investment

Dr. Mrunal Joshi B.R.C.M. College of Business

3. Adequate diversification
– Involve many industries and companies or securities as
possible
– Not only the number of securities but right kind of
securities
4. Markowitz Diversification
– Right number of securities – not too many or not too less
– i.e. 10-16 companies – for Mutual funds/Finance
companies number may be higher
– And securities which are negatively correlated or not
correlated at all
Dr. Mrunal Joshi B.R.C.M. College of Business
 A

Unsystematic Risk
B

Risk

Systematic Risk

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16

Number of Companies
Dr. Mrunal Joshi B.R.C.M. College of Business
Phases of Portfolio Management
1. Security Analysis
2. Portfolio Analysis
3. Portfolio Selection
4. Portfolio Revision
5. Portfolio Evaluation

Dr. Mrunal Joshi B.R.C.M. College of Business

Security Market:
● To buy and sell, alternatives available with securities
market
● Primary market and secondary market
● Stock exchange provide liquidity
● Also provide valuation of securities
● BSE
● NSE
● SEBI – regulator
● Stock market indices
Dr. Mrunal Joshi B.R.C.M. College of Business
1. Security Analysis:
○ Different kinds of securities with innovative features
e.g. GDR
○ Security analysis: examining the risk-return
characteristics of individual securities.
○ Buy under price security and sell over price securities.
○ Two alternative approaches: Fundamental Analysis
and Technical analysis

Dr. Mrunal Joshi B.R.C.M. College of Business

 Security Analysis: Concepts of Fundamental Analysis, Technical Analysis and Efficient Market
Hypothesis

● Fundamental analysis:
○ concentrates on factors affecting the company such as the EPS of the
company ,the dividend payout ratio, the competition faced by the
company, the market share, quality of management etc.
○ it also consist fundamental factors affecting the industry and the
economy fundamentals
○ Work out true worth or intrinsic value of the security
○ Compare true value with market price
○ Mispricing provides opportunities to acquire or dispose of the share
profitably.
○ Buy underpriced and sell overpriced securities.

Dr. Mrunal Joshi B.R.C.M. College of Business

 Security Analysis: Concepts of Fundamental Analysis, Technical Analysis and Efficient Market
Hypothesis
● Technical Analysis:
○ It believes that share price movements are systematic and exhibit
certain consistent pattern.
○ Identify trends and patterns to predict the future price movements.
○ Concentrates on price movements and ignores the fundamentals of
he shares.
● Efficient Market Hypothesis:
○ Recent approach
○ “market prices instantaneously and fully reflect all relevant available
information”
○ Market prices will always equal intrinsic values
○ Share prices movements are random and not systematic
○ denial of both fundamental and technical analysis
○ An investor earn normal returns by randomly choosing securities of a
given risk level.
Dr. Mrunal Joshi B.R.C.M. College of Business
2. Portfolio Analysis
○ Use diversification to reduce risk
○ With the use of set of securities large number of
portfolios can be constructed
○ Each portfolio constructed by combining individual
securities has its own risk and return characteristics
○ Calculate risk and return of range of possible
portfolios

Dr. Mrunal Joshi B.R.C.M. College of Business

3. Portfolio Selection
○ The goal is to generate a portfolio that provides the
highest returns at given level of risk – efficient
portfolio.
○ Identify set of efficient portfolios
○ Select optimal portfolio i.e. best combination of
minimum risk with maximum possible return
○ Harry Markowitz’s portfolio theory provides both
conceptual framework and analytical tools for
determining the optimal portfolio

Dr. Mrunal Joshi B.R.C.M. College of Business

4. Portfolio Revision
○ As economy and financial markets are dynamic
○ Constantly monitor the portfolio
○ Securities which were once attractive may cease to be
so.
○ New securities with promises of high returns and low
risk may emerge
○ Revise portfolio in light of new developments
○ It may also due to availability of additional funds,
change in risk attitude, need for cash etc.
○ Revision should be done objectively and scientifically

Dr. Mrunal Joshi B.R.C.M. College of Business

5. Portfolio Evaluation
○ The objective is to earn maximum returns with
minimum risk
○ Evaluation concerned with assessing the performance
of the portfolio return and risk
○ Quantitative measurement of actual risk and return
bared
○ Also used for identifying weaknesses in investment
process and for improving these deficient area
○ It provides feedback for improving the entire portfolio
management process and superior performance

Dr. Mrunal Joshi B.R.C.M. College of Business

Concept of Mutual Fund as a well-diversified Portfolio
A Mutual Fund Portfolio is the collection of investments made in different
MF schemes. All these investments are in sync with your investment goals
and objectives. It offers a comprehensive view of your investments in Mutual
funds and allows you to monitor them or analyze and manage them better.

A mutual fund portfolio is the collection of schemes across different fund

houses and asset classes that help in meeting investment objectives. It is
built keeping in mind an investor’s risk profile, goals and objectives.

Dr. Mrunal Joshi B.R.C.M. College of Business

https://www.indmoney.com/articles/mutual-funds/top-diversified-mutual-fun
ds

Equity Mutual Funds (investment in equities of large-cap, mid-cap, and small

cap), Debt Mutual Funds (investment in government securities and other
low-risk securities), and Hybrid Mutual Funds (investment in equities and debt
instruments). All of the above forms of investments offer diversification and
are also called diversified mutual funds.

The main benefit of having diversified investments is reduced risks. By

investing in multiple instruments, the risk is also diversified, if one instrument
fails to perform well, the other instruments are there to balance it and thereby
reducing the loss or making a profit in the end.

Dr. Mrunal Joshi B.R.C.M. College of Business

Examples:

Quant Active Fund - Direct Plan-Growth

This scheme is launched by Quant Mutual Fund. It is a multi-cap Mutual Fund. This Mutual Fund has a
fund size of ₹2644.71 Cr and an Expense Ratio of 0.58% This fund has 98.54% investment in domestic
equities, out of which, 46.84% is in large-cap stocks and 13.87% is in mid-cap stocks and 22.31% is in
small-cap stocks. With a NAV of ₹467.0295 and a 5-star Crisil Ranking, it is suitable for individuals who
are looking to invest money for a minimum of 3 - 4 years with higher returns and are also willing to
accept a moderate loss as this mutual fund is highly risky.

ICICI Prudential Equity & Debt Fund - Direct Plan-Growth

This scheme is launched by ICICI Mutual Fund. It is an Aggressive Hybrid Fund. This Mutual Fund has
a fund size of ₹19613.85 Cr and an Expense Ratio of 1.24% This fund has 69.76% investment in
domestic equities, out of which, 55.55% is in large-cap stocks and 7.38% is in mid-cap stocks and
1.72% is in small-cap stocks. This fund also invests 20.03% in Debt, out of which 14.12% is invested in
Government securities and 5.21% is invested in low-risk securities. With a NAV of ₹255.06 and a
5-star Crisil Ranking, it is suitable for investors who are looking to invest in a Hybrid Mutual Fund and
diversify their investment in both equities and debt securities.

Dr. Mrunal Joshi B.R.C.M. College of Business

HDFC Balanced Advantage Fund - Direct Plan-Growth

This scheme is launched by HDFC Mutual Fund. It is a Balanced Advantage Fund. This Mutual Fund
has a fund size of ₹46130.44 Cr and an Expense Ratio of 0.97% This fund has 68.38% investment in
domestic equities, out of which, 48.8% is in large-cap stocks and 6.02% is in mid-cap stocks and 6.2%
is in small-cap stocks. This fund also invests 21.75% in Debt, out of which 17.8% is invested in
Government securities and 4.57% is invested in low-risk securities. With a NAV of ₹330.572 and a
4-star Crisil Ranking, it is suitable for investors who are looking to invest in a Hybrid Mutual Fund and
diversify their investment in both equities and debt securities.

Canara Robeco Savings Fund - Direct Plan-Growth

This scheme is launched by Canara Robeco Mutual Fund. This Mutual Fund has a fund size of
₹1060.66 Cr and an Expense Ratio of 0.33% This fund is a Low Duration Debt Mutual Fund and
95.25% of the total amount is invested in Debt, out of which 20.95% is invested in government
securities, and 74.3% is invested in low-risk securities. Being a debt fund, it is less risky and is suitable
for investors who want to invest for a short duration of 1-3 years. It has a NAV of ₹35.4068, and a
5-star Crisil Rank holding in the previous quarter and is suitable for people looking for alternatives to
a bank deposit.

Dr. Mrunal Joshi B.R.C.M. College of Business

References
● Kevin S. (2015), Security Analysis And Portfolio Management, PHI Learning Pvt.
Ltd
● V. A. Avadhani, Investment Management, Himalaya Publication
● V. K. Bhalla, Security Analysis And Portfolio Management, S. Chand
● https://www.icicipruamc.com/learn-about-mutual-funds/courses/advanced-con
cepts/what-is-a-mutual-fund-portfolio#:~:text=A%20Mutual%20Fund%20Portfoli
o%20is,analyze%20and%20manage%20them%20better
● https://economictimes.indiatimes.com/mf/analysis/how-to-build-a-mutual-fund-
portfolio/articleshow/100291344.cms?from=mdr
● https://www.indmoney.com/articles/mutual-funds/top-diversified-mutual-funds

Dr. Mrunal Joshi B.R.C.M. College of Business

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