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INTRODUCTION TO THE INDUSTRY: The project entitled A Study on Portfolio Construction and Evaluation of Five securities in NSE at Geojit Financial services Ltd deals with the construction of different portfolios on the basis of risk-return evaluation and loss minimization. The companies are selected from the top list of NSE CNX NIFTY on a random basis. The study gives a better understanding of security analysis and portfolio construction and evaluation. Company name: GEOJIT FINANCIAL SERVICES Ltd
SELECTED COMPANIES: ITC,HERO HONDA,TATA MOTORS,BPCL,WIPRO
Statement of the Problem: The problem under study is to construct different portfolios considering the risk return factors of the securities and the market as a whole and to evaluate then to find out best out of them. The evaluation provides necessary feedback for better designing of portfolio next around. Title of the study: A Study on Portfolio Construction and Evaluation of Five Securities in NSE at Geojit Financial Services Limited, Calicut Objective of the research: To construct three portfolios with five major securities in different sectors by using three different criteria. To perform the risk return analysis of the securities constructed. To evaluate the performance of the portfolios so constructed.
Scope of the study: The study is only to the Indian capital market situations. The methods and techniques followed in the study are highly relevant and efficient. Therefore the study can give a basic picture of portfolio construction and evaluation. Research methodology: Research design: Firstly, the determinations of the following are done; a. Return of securities b. Risk of securities c. Beta value of securities d. Alpha value of securities e. Systematic risk and unsystematic risk (residual variance) of securities Secondly, a. By giving equal weight to each of security b .By giving weight to each security based on Price-Earnings Ratio. C .By giving weight to each security on the basis of random number. Then the third step, evaluation of the portfolio is done to find out the best portfolio 1.Sharpe ratio 2.Treynor ratio 3.Jensen measure
DATA SOURCES AND COLLECTION
The movement of NSE Nifty index is the fundamental data for the study. The companies are selected from the top list of NSE CNX NIFTY on a random basis.
PERIOD OF THE STUDY
The collected data has been analyzed using basic statistical tools like Ratios, Charts and Formulas.
portfolios on the basis of risk-return evaluation and loss minimization. The companies are selected from the top list of NSE CNX NIFTY on a random basis. The study uses various methods of creating portfolios like equal weights, random numbers and P/E ratio. The study also analyses these portfolios by using different analysis tools like SHARPE ratio etc.The study also generate the best portfolio and evaluating the return of the securities. The study gives a better understanding of security analysis and portfolio construction and evaluation. The study also helps to become familiar with various tools, methods and techniques which are used to reach at effective decisions in the capital market.
INDUSTRY PROFILE
INDIAN CAPITAL MARKET
The capital market is a place where the suppliers and users of capital meet to share one anothers views, and where a balance is sought to be achieved among diverse market participants. Or in other words, Capital market is the place wherein funds are raised for companies for meeting their long-term requirements. It is a mechanism which co-ordinates the demand and supply forces of long-term capital. The capital market is classified into primary market and secondary market. Primary market is one in which long term capital is raised by corporations directly from the public. The secondary market refers to the stock market where the financial instruments or securities are traded. Thus capital market is the market for: Raising long term capital; through the issue of financial instruments or financial assets; Liquidating the issued or subscribed financial assets or financial instruments like shares or debentures. The primary market in which public issue of securities is made through a prospectus is a retail market and there is no physical location. Offer for subscription to securities is made to investing community. The secondary market or stock exchange is a market for trading and settlement of securities that have already been issued. The investors holding securities sell securities through registered brokers or sub-brokers of the exchange. It may have a physical location like a stock exchange or a trading floor. Since 1995, trading in securities is screen based and internet based trading has also made an appearance in India. The secondary market consists of 22 stock exchanges including NSE and BSE. The secondary market provides a trading place for the securities already issued, to be bought and sold. It also provides liquidity to the initial buyers in the primary market to re offer the securities to any interested buyer at any price, if mutually accepted.
An active secondary market actually promotes the growth of the primary market and capital formation because investors in the primary market are assured of a continuous market and they can liquidate their investments.
infrastructure to enable Indian finance to grow further and mature. The importance of an efficient micro market infrastructure came into focus following the incidence of market abuses in securities and banking markets in 1991 and 2001 that led to extensive investigations by two respective Joint Parliamentary Committees. The Securities and Exchange Board of India (SEBI), which was set up in 1988 as an administrative arrangement, was given statutory powers with the enactment of the SEBI Act, 1992. The broad objectives of the SEBI include To protect the interests of the investors in securities To promote the development of securities markets and to regulate the securities markets The scope and functioning of the SEBI has greatly expanded with the rapid growth of securities markets in India in the last fifteen years. Faster and efficient securities settlement system is an important ingredient of a successful stock market. To speed the securities settlement process, The Depositories Act 1996 was passed that allowed for dematerialization (and re-materialization) of securities in depositories and the transfer of securities through electronic book entry. The National Securities Depository Limited (NSDL) set up by leading financial institutions, Trading Pattern of the Indian Stock Market Trading in Indian stock exchanges are limited to listed securities of public limited companies. They are broadly divided into two categories, namely, specified securities (forward list) and non-specified securities (cash list). Equity shares of dividend paying, growth-oriented companies with a paid-up capital of at least Rs.50 million and a market capitalization of at least Rs.100 million and having more than 20,000 shareholders are, normally, put in the specified group and the balance in nonspecified group. Two ty pes of transactions can be carried out on the Indian stock exchanges: (a) spot delivery transactions "for delivery and payment within the time or on the date stipulated when entering into the contract which shall not be more than 14 days following the date of the contract" : and (b) forward transactions "delivery and payment can be extended by further period of 14 days each so that the overall period does not
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exceed 90 days from the date of the contract". The latter is permitted only in the case of specified shares. The brokers who carry over the out standings pay carry over charges (cantango or backwardation) which are usually determined by the rates of interest prevailing. A member broker in an Indian stock exchange can act as an agent, buy and sell securities for his clients on a commission basis and also can act as a trader or dealer as a principal, buy and sell securities on his own account and risk, in contrast with the practice prevailing on New York and London Stock Exchanges, where a member can act as a jobber or a broker only.
National Stock Exchange (NSE) There are two kinds of players in NSE: (a) Trading members and (b) Participants. Recognized members of NSE are called trading members who trade on behalf of themselves and their clients. Participants include trading members and large players like banks who take direct settlement responsibility.
Trading at NSE takes place through a fully automated screen-based trading mechanism which adopts the principle of an order-driven market. Trading members can stay at their offices and execute the trading, since they are linked through a communication network. The prices at which the buyer and seller are willing to transact will appear on the screen. When the prices match the transaction will be completed and a confirmation slip will be printed at the office of the trading member. It is all about your money, being managed by the experts, while you continue with your routine life. Isn't it simple and totally hassle free.
What's more, you can keep track of your dividends / bonus / rights issues with paperless tracking. So you always know how fast your investment is growing. It basically means assigning the right job to the right person.
COMPANY PROFILE
GEOJIT FINANCIAL SERVICES LIMITETD, CALICUT, KERALA. Geojit financial services limited is a one-stop financial services shop, most respected for quality of its advice, personalized service and cutting-edge technology. Geojit financial services Ltd is listed on both the leading stock exchanges in India, viz. the Stock Exchange, Mumbai (BSE) and the National Stock Exchange (NSE). The Geojit financial services ltd is comprising the holding company, Geojit financial services Ltd and its subsidiaries, straddles the entire financial services space with offerings ranging from Equity research, Equities and derivatives trading, Commodities trading, Portfolio Management Services, Mutual Funds, Life Insurance, Fixed deposits, and other small savings instruments to loan products and Investment banking. Geojit financial services ltd also owns and manages the websites, www.Geojit.com.
Geojit financial services ltd Ltd, being a listed entity, is regulated by SEBI (Securities and Exchange Board of India). It undertakes equities research which is acknowledged by none other than Forbes as 'Best of the Web' and 'a must read for investors in Asia'
SAILENT FEATURES Expert team of Research Analysts Stock Picking done by the Investment Committee Dedicated Relationship Manager Technology and Service driven Back-Office
which is favorable tomorrow. New securities with promises of high return with low risk may emerge. Then the advisor cannot stick-on in his current portfolio, he will be forced to revise the current portfolio in the light of the emerging conditions in the market. Therefore, the portfolio management is an ongoing process in this volatile market. This process starts with security analysis, proceeds to portfolio construction and continues with portfolio revision and evaluation. The evaluation provides necessary feedback for better designing of portfolio next around. Superior performance will be achieved through continual refinement of portfolio management skills. While investing in a single security, it may bring a higher risk to the investor due to the extreme volatility of the market. So, a thinking investor may construct an optimal portfolio to achieve his investment goals and diversify the risk factor of the volatile market.
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The study has the following objectives. To construct three portfolios with five major securities in different sectors by using three different criteria. To perform the risk return analysis of the securities constructed. To evaluate the performance of the portfolios so constructed.
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portfolios, the study A Study on Portfolio Construction and Evaluation of Five Securities in NSE at Geojit Financial Services Ltd has a considerable relevance in the current market scenario. Since time immemorial, human beings have tried to manage risk faced in their day-to-day life. The study helps to understand how to allocate the fund in the best way so that risk and return get balanced. The study is only to the Indian capital market situations. The methods and techniques followed in the study are highly relevant and efficient. Therefore the study can give a basic picture of portfolio construction and evaluation.
METHODOLOGY
CONCEPTUAL FRAMEWORK
Portfolio Management
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Portfolio Evaluation
Jensen Measure Treynor Ratio Sharpe Ratio Security analysis P/E Ratio
Portfolio construction
Equal weight
Random Number
Portfolio selection
RESEARCH DESIGN This research is designed in such a way that to make the interpretation easily by anyone who goes through this. The researcher here tried to make it very simple to understand the research very clearly.
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Firstly, the determinations of the following are done; Return of securities Risk of securities Beta value of securities Alpha value of securities Systematic risk and unsystematic risk (residual variance) of securities Secondly, after determining the above values the portfolio construction is done. Portfolios were constructed according to; By giving equal weight to each of security By giving weight to each security based on Price-Earnings Ratio. By giving weight to each security on the basis of random number.
After the portfolio construction the determination of portfolio risk and return is done. Then the third step, evaluation of the portfolio is done to find out the best portfolio. For that purpose the following measures or ratios were used; Sharpe ratio Treynor ratio Jensen measure
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ANALYSIS PLAN
Researcher here uses a number of formulas to find out different values; Microsoft Excel is used for computation purpose.
Beta of Security i Where; x y n = = = Market return Stock return No. of trading days in a year = (nxy - xy) / (nx2 (x)2)
Alpha of Security i Where; Ri i Rm = = = Return of the security Beta of the security Return of the market index = Ri (i Rm)
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Stock variance
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p p Rm
= = =
Alpha value of the portfolio Beta value of the portfolio Return of the market index
Portfolio Risk p2 Where; p m2 i ei2 = = = = Beta value of the portfolio Variance of the market index Weight of the security Residual variance = p2m2 + i2ei2
Sharpe Ratio SR Where; Rp Rf p = = = Return of the portfolio Risk free rate of return Standard deviation of the portfolio = (Rp Rf) / p
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Rp Rf p
= = =
Return of the portfolio Risk free rate of return Beta value of the portfolio
Jensen Measure JM Where, E (Rp) = Rf Rm p = = = Rf + p (Rm-Rf) Risk free rate of return Return of the market index Beta value of the portfolio = Rp E (Rp)
DATA SOURCES AND COLLECTION The movement of NSE Nifty index is the fundamental data for the study. The companies are selected from the top list of NSE CNX NIFTY on a random basis. The nature of data source is secondary. The information is mainly collected from websites. References are made from Newspapers, Magazines and Journals.
PERIOD OF THE STUDY The study was carried for a period of 45 days TOOLS FOR ANALYSIS The collected data has been analyzed using basic statistical tools like Ratios, Charts and Formulas.
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The study entitled A Study on Portfolio Construction and Evaluation of Five Securities in NSE at Geojit Financial Services Limited, Calicut.
Data considered only for past three year period. Data collected is secondary in nature. Only 5 securities are considered.
The duration of the study was limited to 45 days so that an extensive and deep
Chapter- 3
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PORTFOLIO MANAGEMENT
Investing in securities such as shares, debentures and bonds are profitable as well as exciting. It is needed rewarding, but involves a great deal of risk and calls for scientific knowledge as well as artistic skill. In such investments, both rational as well as emotional responses are involved. Investing in financial securities is now considered to be one of the best avenues for investing one's savings while it is acknowledged to be one of the most risky avenues of investment. It is rare to find investors investing their entire savings in a single security. Instead, they tend to invest in a group of securities. Such a group of securities are called portfolio management. Creation of a portfolio helps to reduce risk without sacrificing returns. Portfolio management deals with the analysis of individual securities as well as with the theory and practice of optimally combining securities into portfolios. The risk and return characteristics of a portfolio differ from those of individual securities combining to form a portfolio. The investor tries to choose the optimal portfolio taking into consideration the risk-return characteristics of all possible portfolios.
PHASES IN PORTFOLIO MANAGEMENT There are five phases in portfolio management Security Analysis
Portfolio Analysis
Portfolio Selection
Portfolio Revision
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Portfolio Evaluation
PORTFOLIO ANALYSIS A portfolio is a group of securities held together as investment. Investors invest their funds in a portfolio of securities rather than in a single security because they are risk-averse. By constructing a portfolio investors attempt to spread risk by not putting all their eggs into one basket. Diversification of one's holdings is intended to reduce risk in the investment.
By the security analysis process an investor can reach at asset of worth while or desirable securities. From these set of securities an indefinitely large number of portfolios can be constructed by choosing different set of securities and also by varying the proportion of investment in each security. Each individual security has its own risk return characteristics, which can be measured and expressed punitively. Each portfolio constructed by combining the individual securities has its own specific risk return characteristics, which have not just the aggregate of individual securitys characteristics. The risk and return of each portfolio has to be calculated mathematically and expressed quantitatively. Portfolio analysis phase of portfolio management consists of identifying the range of portfolios that can be constituted from a given set of securities and calculating their return and risk for further analysis.
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PORTFOLIO SELECTION Portfolio analysis provides the input for the next phase of portfolio management, which is portfolio selection. The proper goal of portfolio construction is to generate a portfolio that provides highest return at a given level of risk. A portfolio having these characteristics is known as efficient portfolio. Impute from portfolio analysis can be used to identify the set of efficient portfolios. From these set of portfolios, optimal portfolio has to be selected for investment.
PORTFOLIO REVISION Having constructed the optimal portfolio; the investor has to constantly monitor the portfolio to ensure that it continues to be optimal. As the economy and the financial markets are dynamic, changes take almost daily. As time passes securities which were ones attractive may seize to so. New securities, which promise high returns and low risk, may emerge. The investor has to revise his portfolio in the light of the developments in the market. This leads to purchase of some new securities and sale of some of the existing securities from the portfolio. The mix of securities and their proportion in their portfolio changes as a result of the revision. Whatever is the reason for portfolio revision it has to be done scientifically and objectively so as to ensure the optimality of revised portfolio. Portfolio revision is not a casual process to be casual out without much care. In fact, in the entire process of portfolio management, portfolio revision is as important as portfolio analysis and selection.
PORTFOLIO EVALUATION The objective of constructing a portfolio and revising periodically is to earn a maximum return with a minimum risk. Portfolio evaluation is a process, which is concerned with assessing the performance of the portfolio. Alternative measures of
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Performance evaluations have been developed for the use of investors and portfolio managers. Portfolio evaluation is useful in yet another way. It provides mechanism for identifying weakness in the investment process and for improving these deficient areas. It provides the feedback mechanism for improving the entire portfolio management process. It is an ongoing process. It starts with security analysis proceeds to portfolio construction and continues with portfolio revision and evaluation. The evaluation provides the necessary feedback for better designing of the next time around. Superior performance is achieved through continual refinement of portfolio management skills. Portfolio evaluation refers to the evaluation of the performance of portfolio. It is the process of comparing the return earned on a portfolio with the return earned on one or more portfolios or a benchmark portfolio..
RISK AND RETURN OF SECURITIES Risk means possibility of loss or injury. Often the risk is interchangeably used with uncertainty. In uncertainty, the possible events and probabilities of their occurrence are not known. Before investing his or her invisible wealth in the stock, he or she analyses the risk associated with the particular stock. The actual return he receives from a stock may vary from his expected return and the risk is expressed in terms of variability of return.
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Whereas return is the after effect of the risk. It is directly related with the risk factor. The return is calculated upon the amount of risk suffered by the investor. The return from the security includes both current income and capital gain caused by the appreciation of the price. The income and capital gain are expressed as a percentage of money invested in the beginning. Return and risk has a direct relationship. When risk of a security is high the return will also be in a high level and vice versa. While analyzing the securities an investor will select such type of securities which are affordable to him in terms of risk and return. He will select the point where there is a tradeoff between risk and return.
BETA of Security The Beta value indicates the measure of systematic risk of the security. Beta describes the relationship between the stock return and the market index return. Beta of security may be positive, negative, or zero. The beta of an asset is a measure of variability of that asset relative to the variability of the market as a whole. Beta is an index of the systematic risk of an asset.
Where; N = Number of Observations = 744 Y= Current Stock Price Yesterdays Stock Price Yesterdays Stock Price 100
X=
Current Market Index Yesterdays Market Index 100 Yesterdays Market Index
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ALPHA of Security The alpha value indicates the extra return earned by the stock over and above the market return. Alpha measures the unsystematic risk of a security. Return of Stock = Alpha + (Beta Market return per year)
Ri
i + (i Rm)
So, Alpha (i) Where, i Ri i Rm = = = = Alpha of the security Return of the security Beta of the security Return of the market = Ri - (i Rm)
RISK AND RETURN OF PORTFOLIO When we consider risk and return of a portfolio it is some what related with the risk and return of securities. Simply because, portfolio is a collection of securities. The risk and return of a security will reflect in a portfolio directly. But the difference will happen when we combine different securities having different risk and return into a single portfolio. The risk of the securities is traded off with each other and it will reduce the risk and increase the return. The process of reducing the risk of a portfolio by varying the securities and their proportion is known as diversification of risk. The risk and return of portfolios are calculated as follows;
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Portfolio Return Rp Where; p p Rm = = = Alpha value of the portfolio Beta value of the portfolio Return of the market index = p + (p Rm)
Portfolio Risk
p2 Where; p m2 i ei2 = = = =
p2m2 + i2ei2
Beta value of the portfolio Variance of market index Weight of the security Residual variance of the security
POTRFOLIO EVALUATION Evaluation is the appraisal of the performance. Portfolio evaluation refers to the evaluation of the performance of the portfolio. It is the process of comparing the return earned on a portfolio with the return earned on one or more other portfolios. The different methods used for evaluation are;
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Sharpe Ratio
The performance measured by William Sharpe is referred to as the Sharpe ratio or the reward to variability ratio. It is the reward or risk premium to the variability of return or risk as measured by the standard deviation of return. If the portfolios are not well diversified then this ratio is an appropriate measure of portfolio evaluation. Sharpe Ratio (SR) Where; Rp Rf p = = = Realized return on the portfolio Risk free rate of return Standard deviation of portfolio return = Rp Rf p
Treynor Ratio
The performance measure developed by Jack Treynor is referred to as Treynor ratio or reward to volatility ratio. It is the ratio of the reward or risk premium to volatility of return as measured by the portfolio beta. Treynor Ratio (TR) = Rp Rf p Where; Rp Rf p = = = Realized return on the portfolio Risk free rate of return Portfolio beta
Jensen Measure
Another type of risk adjusted performance measure has been developed by Michael Jensen and is referred to as Jensen Measure ratio or Differential return. This
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ratio attempts to measure the differential between actual return earned on a portfolio and the return expected from the portfolio given its level of risk. Jensen Measure, p = Where; p Rp = = Differential return earned (Jensen ratio) Actual return earned on the portfolio Expected return = Rf + p (Rm Rf) Rp E(Rp)
Expected portfolio return Risk-free rate Return on market index Systematic risk of the portfolio
The alpha value in Jensen measure can be tested for its degree of significance from a value of zero by statistical methods. This means, an analyst can determine whether the differential return could have occurred by chance or whether it is significantly different from zero in a statistical sense.
INTRODUCTION TO THE ANALYSIS The analysis part involves various processes required to reach at the objectives of the study. These processes are divided in to two parts namely analysis I and analysis II and are arranged in a sequential order starts from security analysis and it ends with evaluation and selection of best portfolio. The order of arrangement of activities is;
Analysis I A. B. C. Determine Return of each security Determine Risk of selected securities Determine Beta value of each security
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D. E.
Determine Alpha value of each security Determine Unsystematic risk of each security
Analysis II F. G. H. Construction of three portfolios. By giving equal weight to each security in the portfolio By giving weight based on price earnings ratio By giving weight on the basis of Random numbers Calculate the Return and risk of each portfolio. Select the portfolio using Sharper ratio, Treynor ratio, Jenson measure and.
From these analysis processes various findings are derives and these are listed in the conclusion part of the study.
SECURITY ANALYSIS Rational investor makes his investment decision based on the risk and return of a security. He would also be interested in identifying mix-priced securities so that he conveys under priced security and sell overpriced securities. For this purpose he has to determine the intrinsic value of security. Security analysis involves evaluation of the risk and return of the security and determination of intrinsic value of securities.
RETURN AND RISK OF SECURITIES The return of the security is measured by the arithmetic mean of its return. The risk of security is measured by the variance or standard deviation of the return of the security.
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The table given below shows the return and risk of all the selected securities. Table No.1 RETURN AND RISK OF THE SECUTIRIES
SECURITY
RETURN (%)
RISK (%)
5 0 4 0 3 0 2 0 1 0 0 -1 0 -2 0 -3 0 -4 0 -5 0 I TC R T R (% EUN ) R K (% IS ) 1 .7 8 1 5 3 .7 5 6 1
HR E O H NA OD 6 8 .6 6 4 .7 9 7 1
T T AA MT R OOS -4 .7 9 1 9 4 .9 4 7 5
B C P L 9 4 .4 8 3 .7 5 6 1
W R IP O -1 .6 2 8 4 4 .5 5 3
INFERENCES: IT C has the maximum return 11.758% and TATA MOTORS has the minimum return -41.79.%. TATA MOTORS has the maximum risk 47.954% and HERO HONDA has the minimum risk 34.68%
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BETA () Beta describes the relationship between the stock return and the market index return. This can be positive of negative. If Beta is one, one percent changes in the market index return causes exactly one percent changes in the stock return. It indicates that the stock moves in tandem with the market. If the portfolio is efficient, the Beta measures the systematic risk effectively.
The table given below shows the beta values of all the selected securities. Table No. 2
BETA VALUE OF SECURITIES SECURITY ITC HERO HONDA TATA MOTORS BPCL WIPRO BETA 0.670 0.416 0.216 0.615 0.175
Chart No. 2
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The chart given below shows the Beta values of all the selected
BETA
0.7
0.6
0.5
0.4
0.3
0.2
0.1
BPCL 0.615
WIPRO 0.175
INFERENCE: The BETA value indicated measure of systematic risk of a security. From the above table it can be inferred that I T C( 0.67 )indicating that it has maximum systematic risk. The Beta value is minimum for WIPRO (0.52) indicating that the security is having the minimum systematic risk.
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ALPHA VALUES OF SECURITIES () Table No. 3 SECURITY ITC HERO HONDA TATA MOTORS BPCL WIPRO ALPHA 8.6841 4.7802 -42.7915 6.6269 -19.448
Chart No. 3 The chart given below shows the Alpha values of all the selected securities
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ALPHA
10 0 -10 -20 -30 -40 -50 ITC ALPHA 8.6841 HERO HONDA 4.7802 TATA MOTORS -42.7915 BPCL 6.6269 WIPRO -19.448
INFERENCE: ITC has the maximum alpha of 8.6841, indicating that it has the maximum extra return. From the above table it is also inferred that TATA MOTORS has
the minimum Alpha value -42.80%
DECOMPOSITION OF TOTAL RISK OF SECURITIES The total risk of security can be resolved in to two components; the systematic or market risk, which cannot be diversified, and the unsystematic or specific risk, which can be diversified by construction of the portfolio. An investor would be interested in knowing these two risks of the security in order to plan his portfolio. For the purpose of the analysis the systematic and unsystematic risk of the securities are measured by using Sharpes single index model. According to Sharpe index model: 2 2 Systematic risk = m i 2 2 2 Unsystematic risk = - m i SYSTEMATIC RISK
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The imapct of economic, political and social changes is system wide and that portion of total variablility in secutiry return caused by such system wide factors is referred to as systematic risk.systematic risk is further subdivided in to interest rate risk, market risk and purchasing power risk. The table given below shows the systematic risk of all the selected securities. SYSTEMATIC RISK OF THE SECUTIRIES Table No. 4 Market variance (m) 1280.0116 1280.0116 1280.0116 1280.0116 1280.0116 Systematic risk (i.m) 574.940309 220.875169 59.9416128 484.447328 39.5595782 1379.764
i
0.44916804 0.17255716 0.04682896 0.37847104 0.03090564
m
35.77725 35.77725 35.77725 35.77725 35.77725
1400 1200 1000 800 600 400 200 0 ITC HEROHO TATA NDA MOTORS BPCL WIPRO TOTAL
Chart no; 4
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INFERENCES: Systematic risk of non-diversifiable risk is the component of the total risk, which cnanot be diversified. From the above table it is clear that I T C has the maximum systmatic risk ie. 574.940 And WIPRO has the minimum systematic risk is. 39.559. RESIDUAL VARIANCE The return from a security may sometimes vary because of certain factors affecting only the company issuing such security. When variability of returns occurs because of such firm- specific factors, it is known as unsystematic risk. This risk is unique or peculiar to a company or industry and affects it in addition to the systematic risk affecting all securities. The unsystematic risk affecting specific securities arises from two sources: (i) the operating environment of the company, and (ii) the financing pattern adopted by the company. These two types of unsystematic risk are referred to as business risk and financial risk respectively.
The table below shows the unsystematic risk or the residual variance of all the selected securities.
36.7146 47.7192
47.955
36.7146
Security Systematic variance risk () (i.m) 1347.9619 574.94031 2277.122 220.87517 2299.682 59.941613 1347.9619 484.44733
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WIPRO TOTAL
CHART NO: 5
45.5302 2072.9991
39.559578
2033.4395 7965.9629
Unsystematic risk
(ei=i-m)
BPCL
WIPRO
INFERENCES: The residual variance for TATA MOTORS is highest ie. 1939.08 % and the ITC is having lowest ie. 905.31%.
Unsystematic Systematic risk risk (i.m) (ei=i-m) 574.9403 773.0215 220.8751 2056.2469 59.94161 2239.7404 484.447 863.5145 39.5595 2033.4395
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CHART NO:6
TOTAL RISK
HEROHOND A 2277.122
BPCL 1347.9615
WIPRO 2072.999
INFERENCES: From the above chart the total risk for HERO HONDAis high 2277.122 and the risk for BPCL is minimum of 1202.93 compared to others
PORTFOLIO ANALYSIS Portfolio analysis phase of portfolio management consist of identifying the range of portfolios that can be constituted from a given set of securities and calculating their return and risk for further analysis. It is better to invest in a group of securities rather than a single security. Such a group of securities held together as an investment is known as a portfolio. A rational investor attempts to find out the most efficient portfolio. The efficiency can be evaluated only in terms of the expected return and risk of different portfolio
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PORTFOLIO CONSTRUCTION Portfolio construction refers to the allocation of the funds among the variety of financial assets open for investment. The objective of the portfolio construction is diversification of risk. In order to reduce the risk ideally a portfolio should be constructed with assets having opposite characteristics of with negative correlation of the return. The five securities are bundled to form a portfolio. A Tangent portfolio and three other different portfolios are constructed by flexing the weights they carry in order to compare the performance. These portfolios are constructed by applying the following three criteria.
In order to evaluate and select an optimal portfolio, three different portfolios are constructed using different criteria. These three portfolios are then compared using Sharpe ratio, Treynor ratio, Jensen Measure. The best portfolio is then selected on the basis of ratios generated by these evaluation tools.The criteria used for the construction of these portfolios are,
1. By giving equal weight to each of security 2. By giving weight to each security based on Price-Earnings Ratio. 3. By giving weight to each security on the basis of random number.
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PORTFOLIO ALPHA The table given below shows the alpha value of the first portfolio constructed by giving equal weight to the all securities involved in the portfolio. In order to determine the portfolio alpha all the security alphas are multiplied with the fixed weight i.e. 0.2 and then added.
i
8.6841 4.7801 -42.7915 6.627 -19.4485
Portfolio Albha 1
PORTFOLIO ALPHA (p) = i i PORTFOLIO ALPHA PORTFOLIO-A BETA The table given below shows the Beta value of the first portfolio constructed by giving equal weight to the all securities involved in the portfolio. In order to determine the portfolio Beta all the security Betas are multiplied with the fixed weight i.e. 0.2 and then added. Table no: 8 SECURITY ITC HEROHONDA i 0.6702 0.4154 WEIGHT (i) 0.2 0.2 i x i 0.13404 0.08308 = -8.42976
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TATA MOTORS BPCL WIPRO PORTFOLIO BETA (p) PORTFOLIO BETA Table No. 9
SYSTEMATIC RISK OF PORTFOLIO-A Table No. 9 PORTFOLIO PORTFOLIO - A p .17522 m 1280.0116 SYSTEMATIC RISK 224.2836
The table given below shows the Unsystematic risk of Residual variance of the first portfolio constructed by giving equal weight to the all securities involved in the portfolio. In order to determine the portfolio Unsystematic risk all the security Unsystematic risks are multiplied with the fixed weight i.e. 0.2 and then added. PORTFOLIO-A RESIDUAL VARIANCE Table No. 10 (ei=im) 773.0215 2056.2469 2239.7404 863.5145 2033.439
SECURITY
ITC HERO HONDA TATA MOTORS BPCL WIPRO Portfolio residual variance
= =
i.ei 318.638
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PORTFOLIO RETURN (Rp) Portfolio return = portfolio alpha + (portfolio beta * market return) p p Rm = = = -8.1429 0.4186 4.586
p m iei
PORTFOLIO RISK
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Second portfolio is constructed by using Price Earnings ratio of the five securities and then the portfolio Alpha, Portfolio Beta and weighted residual Variance are calculated to arrive portfolio return and risk. The table given below shows the weight assigned to each of the securities involved in the proposed portfolio as per their P/E ratio. These weights are then used to measure the Beta, Alpha and residual values of the portfolio. Here weights are arrived by dividing the each individual P/E ratio value from the total value of the P/E ratios.
Table No. 11
SECURITY
ITC HERO HONDA TATA MOTORS BPCL WIPRO
The table given below shows the Alpha values of the portfolio constructed by giving price earning values to the all securities involved in the portfolio Table No. 12
SECURITY
ITC HERO HONDA TATA MOTORS BPCL WIPRO
-2.743396563
-2.7434
The table given below shows the Beta value of the second portfolio constructed by giving P/E to the all securities involved in the portfolio.
SECURITY
ITC HERO HONDA TATA MOTORS BPCL WIPRO
P/E
Total
ii .8177
PORTFOLIO 0f BETA B =
SYSTEMATIC RISK OF PORTFOLIO-B Table No. 14 PORTFOLIO PORTFOLIO - B p 0.6686 m 1280.0116 SYSTEMATIC RISK 855.858
SYSTEMATIC RISK
= 855.858
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PORTFOLIO-B RESIDUAL VARIANCE Table No. 15 WEIGHT (i) 0.2811846 ITC 0.23767288 HERO HONDA 0.111694763 TATA MOTORS 0.2164763 BPCL 0.15303668 WIPRO Portfolio Residual variance of Portfolio 2 PORTFOLIO RESIDUAL VARIANCE= SECURITY i 0.079064779 0.056488398 0.01247572 0.046861988 0.023420225 ei 773.0215 2056.2469 2239.7404 863.51453 2033.4395 i x ei 61.11877427 116.154093 27.94237429 40.46600794 47.62361148 293.304861
293.305
MEASURING PORTFOLIO RETURN AND RISK PORTFOLIO RETURN (Rp) Portfolio return = portfolio alpha + (portfolio beta * market return) p p Rm = = = -2.743 0.8177 4.586
PORTFOLIO RISK
THIRD PORTFOLIO
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Third portfolio is constructed by using random number and then the portfolio Alpha, Portfolio Beta and weighted residual Variance are calculated to arrive portfolio return and risk. The table given below shows the weight assigned to each of the securities involved in the proposed portfolio as per random number. These weights are then used to measure the Beta, Alpha and residual values of the portfolio.
Portfolio-C Alpha (p) Table No. 17 SECURITY ITC HERO HONDA TATA MOTORS BPCL Weight(c=a/b) 0.3483 0.20895 0.05472 0.18905 i 8.6841 4.7801 -42.7915 6.627 i.i
3.02467203 0.998801895 -2.34155088 1.25283435
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WIPRO
..19900
-19.4485
-3.87034
= .9356
i i
PORTFOLIO-C BETA The table given below shows the Beta value of the third portfolio constructed by giving random number values to the all securities involved in the portfolio. PORTFOLIO-C BETA (p) Table No. 18 SECURITY ITC HERO HONDA TATA MOTORS BPCL WIPRO TOTAL Weight(c=a/b) 0.3483 0.20895 0.05472 0.18905 0.199 i 0.6702 0.4154 0.2164 0.6152 0.1758 i*
0.23343066 0.08679783 0.011841408 0.11630356 0.0349842 0.483357658
= =
ii 0.483
SYSTEMATIC RISK OF PORTFOLIO-C Table No. 19 PORTFOLIO PORTFOLIO - C p 0.2333 m 1279.49 SYSTEMATIC RISK 298.491
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The table given below shows the Unsystematic risk of Residual variance of the third portfolio constructed by giving random number values to the all securities involved in the portfolio.
PORTFOLIO-C RESIDUAL VARIANCE Table No. 20 SECURITY ITC TATA MOTORS WIPRO HERO HONDA BPCL TOTAL WEIGHT(I) 0.3483 0.20895 0.05472 0.18905 0.199 i 0.121313 0.04366 0.002994 0.03574 0.039601 ei 773.0215 2056.2469 2239.7404 863.51453 2033.4395 i .ei 93.7774722 89.7759504 6.7064063 30.8619251 80.5262376 301.647992
= =
i.ei 301.65
MEASURING PORTFOLIO RETURN AND RISK PORTFOLIO RETURN (Rp) Portfolio return = portfolio alpha + (portfolio beta * market return) p p Rm = = = 0.9356 0 .483 4.586 3.1506
PORTFOLIO RETURN Rp =
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p m iei
= = =
PORTFOLIO RISK
PORTFOLIO EVALUATION Portfolio evaluation is the process to determine the performance of the portfolio. The best measure for evaluation of portfolio is the SHARPE ratio and Treynor ratio. The following three different evaluation processes are used. 1. SHARPE RATIO 2. TREYNOR RATIO 3. JENSEN MEASURE After applying these three evaluation measures the best portfolio is selected. SHARPE RATIO SHARPE ratio is the ratio of excess return to risk. This measure is developed by William Sharpe is referred to as the Sharpe ratio or reward to variability ratio. It is the ratio the reward or risk premium to the variability of return or risk as measured by the portfolio standard deviation. Sharpe Ratio SR Where, Rp Rf = = Return of the portfolio Risk free rate of return = (Rp Rf) / p
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The following table shows the SHARPE Ratio of each constructed portfolios Table no:21
Portfolio Retur(R) 10.025 1.0061 3.1506 Portfolio risk() 24.499 33.899 23.301 Sharp's=(RRF/) 0.146332503 -0.160296764 -0.141169907
INFERENCES: SHARPE Ratio is maximum for portfolio A (with Equal weight) ie. .14633 and minimum for portfolio A (p/e) ie. -0.160.
TREYNOR RATIO Treynor ratio is also the ratio of excess return to risk but here risk is defined as the systematic risk of market risk on the assumption that the portfolio is well diversified. Treynor Ratio TR Where; Rp Rf p = = = Return of the portfolio Risk free rate of return Beta value of the portfolio = (Rp Rf) / p
TREYNOR RATIO
Table No. 22
Portfolio Retur(R) 10.025 Treynor's RRF/ -5.359615385
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B (P/E) C (RANDOM)
1.0061 3.1506
6.44 6.44
0.8177 0.483
-6.869649052 -10.18273333
INFERENCES;
Treynor ratio is minimum for portfolio C (Random ), and maximum for portfolio A (with equal weight).
DIFFRENTIAL RETURN (JENSEN MEASURE) This performance measure has been developed by Michael Jensen and is referred to as Jensen Measure ratio or Differential return. This ratio attempts to measure the differential between actual return earned on a portfolio and the return expected from the portfolio given its level of risk. Jensen Measure JM Where, E (Rp) = Rf Rm p = = = Rf + p (Rm-Rf) Risk free rate of return Return of the market index Beta value of the portfolio = Rp E (Rp)
JENSEN MEASURE
Table No. 23
R 10.025
Rf 6.44
0.4186
Rm 4.586
E(R) 5.6639156
Rp-E(Rp) 4.3610844
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B( P/E) C (random)
1.0061 3.1506
6.44 6.44
0.8177 0.4586
4.586 4.586
4.9239842 5.5897556
-3.9178842 -2.4391556
INFERENCES: Jenson measure Portfolio B and C are negative and Portfolio A are positive. The B and C portfolios indicating that portfolios bringing a lower return and portfolio A has the highest value of 4.361.
FINDINGS
The study A Study on Portfolio Construction and Evaluation of Five Securities in NSE at Geojit Financial Services Limited, Calicut The Study has pointed out many finding throughout the study. The highlights of the study are briefed below:
Alpha:
ITC has the maximum alpha 8.6841, an indicator of return for the security in
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Beta:
Seems to track the movements of the Stock market index showing that the
market movements compared to other four. ITC has maximum of beta value and minimum is wipro.
Maximum unsystematic risk 2299.68 PORTFOLIO CONSTRUCTION Three portfolios are constructed with three different criteria and their risk and return has been evaluated. Return & Risk of Portfolio:
The return is maximum for portfolio A (using Equal weight) and minimum for
portfolio B(P/E). The risk is maximum for portfolio B (using P/E ratio) and minimum for portfolio A (using equal weight).
PORTFOLIO EVALUATION AND SELECTION The portfolios which are evaluated using Sharpe ratio, Treynor ratio and Jensen measure have revealed the following findings.
Sharpe ratio is maximum for portfolio A (.14633), and minimum for portfolio B
(-0.160).
Treynor ratio is maximum for portfolio A and minimum for portfolio C 53
better From the above evaluation process it is clear that portfolio A (constructed using equal weight) is superior to all other portfolios. So portfolio a is the best option for the investor to select.
SUGGESTIONS
The study reveals that different portfolio evaluation measures like Sharpe ratio, Treynor ratio, Jensen measure, Net selectivity can be applied for scientific selection of investment portfolios. So the investors are strongly recommended to use the different portfolio construction techniques and performance measurement for structuring that portfolio. The sample companies share prices are decreasing in the recession period market and the study revealed that, the price will increase in the future. So it is suggested that the investors should invest as soon as possible to get more advantage in price movement and dont expect the price to come down in the near future. It is suggested that all the potential investors should take necessary precautions and read the offer document carefully before investing to avoid systematic and unsystematic risks.
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Chapter-4 CONCLUSION
The project entitled A Study on Portfolio Construction and Evaluation of Five securities in NSE at Geojit Financial services Ltd deals with the construction of different portfolios on the basis of risk-return evaluation and loss minimization.
The companies are selected from the top list of NSE CNX NIFTY on a random basis. The study gives a better understanding of security analysis and portfolio construction and evaluation.
The problem under study is to construct different portfolios considering the risk return factors of the securities and the market as a whole and to evaluate then to find out best out of them.
From the above evaluation process it is clear that portfolio A (constructed using equal weight) is superior to all other portfolios. So portfolio a is the best option for the investor to select. Detailed risk-return analysis should be done and scientific performance measures like Sharpe ratio, Treynor ratio and Jensen Measure should be used. Study
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revealed the use of portfolio construction and evaluation technique in the portfolio selection process and diversification of risk.
The Market is volatile as is in the present scenario; Investors have to make care full analysis before making any investment decision. For this purpose investors should use analytical and scientific method for construction and selection of portfolio, in order to diversify the portfolio risk.
BIBLIOGRAPHY
Books
Punithavathi Pandian- Security analysis and Portfolio management- Vikas Publishing House. Prasanna Chandra Investment Analysis and Portfolio Management. TMH- 2 edition,2005 News Paper Economic Times Business line
Websites
www.google.com www.moneycontrol.com
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www.nseindia.com www.Geojit.com
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