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# PORTFOLIO

THEORY

PORTFOLIO THEORY
This theory was developed
by Nobel Economist Harry
Markowitz in 1952
Dont put all your eggs in

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PORTFOLIO THEORY
General assumption: Investors want to
maximize the returns from the total set
of investments for a given level of risk.
Portfolio theory also assumes that
investors are basically risk averse

## RISK AND RETURN

RISK
The uncertainty of future
outcomes or the probability of an

RETURN
The gain or loss of a security in a
particular period. The return
consists of the income and the
capital gains relative on an
investment.

RISK ATTITUDES

PORTFOLIO THEORY
This portfolio variance formula not
only indicated the importance of
diversifying investments to reduce
the total risk of a portfolio but also
showed how to effectively diversify.

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ALTERNATIVE MEASURES
OF RISK
Expected Value
Variance or Standard Deviation
Measure of spread of the outcomes around the
expected value.
MEASURING RISKS
Design probability distribution of anticipated
future outcomes
Establish
- Probability distribution
- Determine expected value
- Calculate dispersion around expected value

PORTFOLIO THEORY
THE EFFICIENT FRONTIER
Represents the set of
portfolios that has the
maximum rate of
return for every given
level of risk or the
minimum risk for
every level of return.

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## ULTIMATE GOAL: OPTIMAL

PORTFOLIO
The optimal portfolio is the efficient portfolio
that has the highest utility for a given investor.
provides the highest return for a given level of risk
Given the choice between two equally risky
investments, an investor will choose the one with
the highest potential return.
Given the choice between two investments
offering the same return, an investor will choose
the one that has the least risk.

CORRELATION
Statistical measure of the relationship
between two series of numbers representing
data
Positively Correlated items move in the
same direction.
Negatively Correlated items move in
opposite directions.
Correlation Coefficient is a measure of the
degree of correlation between two series of
numbers representing data.

CORRELATION
Perfectly Positively Correlated describes
two positively correlated series having a
correlation coefficient of +1
Perfectly Negatively Correlated describes
two negatively correlated series having a
correlation coefficient of -1
Uncorrelated describes two series that
lack any relationship and have a
correlation coefficient of nearly zero

FUNDAMENTA
L ANALYSIS

What to Expect?
a.Introduction to Fundamental
Analysis
b.Aspects of Fundamental Analysis
c. Financial Statements
d.Example

WHAT IS FUNDAMENTAL
ANALYSIS?
Fundamental analysis is a technique that attempts to
determine a securitys value by focusing on underlying
factors that affect a company's actual business and its future
prospects.
WHY FUNDAMENTAL ANALYSIS?
Fundamental analysis answers the following questions
1. Is the companys revenue growing?
2. Is it actually making a profit?
3. Is it in a position strong-enough to outrun its competitors
in the future?
4. Is it able to repay its debts?
5. Is management trying to "cook the books"?

WHAT IS FUNDAMENTAL
ANALYSIS?
Fundamental analysis can be composed of many different
aspects: the analysis of the economy as the whole, the
analysis of an industry or that of an individual company.

ECONOMIC ANALYSIS
The performance of a company depends much on the
performance of the economy.
The first step to this type of analysis includes looking at the
macroeconomic situation.
GDP/growth
rate

Tax rates

Balance of
payments

Inflation

Domestic
savings rate

Infrastructure

Interest rates

FDI/FII

Political
stability

Exchange
rates

Agricultural
production/m
onsoon

## Fiscal & Monetary Policies

Fiscal Policy (Keynesians)
Government expenditures (demand)
Tax & Debt policies
Monetary Policy (Monetarists M. Friedman)
Interest rates (discount, fed funds)
Money supply (Open market ops): M1, M2
Reserve requirements (commercial banks)

Goals of Policy
Full Employment
Interest Rates
Money Supply

Interest Rates
Money Supply

Economic Growth
Interest Rates
Money Supply

## ECONOMIC INDICATORS AND THEIR

IMPACT ON THE STOCK MARKET
INDICATOR

FAVOURABLE UNFAVOURAB
IMPACT
LE IMAPACT

GDP/GROWTH RATE

RATE

DOMESTIC SAVINGS
RATE

HIGH

LOW

INTEREST RATES

LOW

HIGH

TAX RATES

LOW

HIGH

INFLATION

LOW

HIGH

IIP/INDUSTRIAL
PRODUCTION

HIGH

LOW

NEGATIVE

BALANCE OF
PAYMENTS

NEGATIVE

POSITIVE

## ECONOMIC INDICATORS AND THEIR

IMPACT ON THE STOCK MARKET
INDICATOR

FAVOURABLE UNFAVOURAB
IMPACT
LE IMAPACT

FOREIGN
EXCHANGE
POSITION

HIGH

LOW

DEFICIT
FINANCING/FISCAL
DEFICIT

LOW

HIGH

AGRICULTURAL
PRODUCTION

HIGH

LOW

INFRASTRUCTURAL
FACILITIES

GOOD

NOT GOOD

Industry Analysis
An industry intelligence is a business
tool carried out to assess profit
potential and the complexity of a
particular industry.
Industry intelligence is assessed based of
key factors relating to the industry such as
the history of the industry,
industry life cycle,
a review of how differing trends such as
seasonal fluctuations affect the industry,
external influences on the industry such as
government laws and
a review of levels of competition both
present and future for the specific industry.

2.
3.
4.
5.

## among existing firms, cut throat competition leads

to reduced profit potential for companies in the
same industry
Threat of substitutes: Availability of substitute
products or services will limit a firms ability to raise
prices
Bargaining power of buyers: It represents
powerful buyers have a significant impact on prices
Bargaining power of suppliers: It highlights
powerful suppliers can demand premium prices and
Barriers to entry: it includes threats of new
entrants that can act as a deterrent against new
competitors

Competitors intelligence
Competitors intelligence in international business is an assessment of
the strengths and weaknesses of current and potential competitors.

## It involves primarily two activities:

1. obtaining information about important competitors and
2. using that information to predict competitor behavior.
Most firms face four basic types of Competition:
Identif
Identif
ying
ying
compet
compet
itors
itors
Profilin
Profilin
g
g
Compe
Compe
titors
titors
Competit
Competit
ors
ors
Analysis
Analysis

Develo
Develo
ping
ping
Marketi
Marketi
ng
ng
Strateg
Strateg
y
y

Compa
Compa
rison of
rison
of
your
your
potenti
potenti
als
als
with
with
compet
compet
itors
itors

## 1. Brand competitors, refers to competition with

different brands offering with similar features, prices
and benefits to the same potential customers.
2. Product competitors, offer same product class but
with offer different benefits, features, and prices.
3. Generic
products
satisfying
benefit or

## competitors, are rival firms offering

which are different but are capable of
the same basic want or provide the same
utility to the prospective customer.

## 4. Total budget competitors, primarily focus on

prices, they compete for the limited financial
resources of the same customers.

## Various types of competition

Produ
ct

Sedans
(Large
Cars)

Soft
Drinks

Movies

Colleges

Transportation

Total
Generic
Brand
Product
Budget
Competito
Competitors
Competitors Rental cars,
Competitor
Maruti
Suzuki, Ford Jeeps,
car-sharing,
riders
Hyundai, Toyota
Hatchbacks, SUVs, Bikes, BMTC,
sharing,sliftHonda, Nissan

Minivans, MUVs

Metro.

sharing

Refreshment

Coca-Cola, Pepsi,
Tropicana, Frooti
Minute Maid, Appy

Tea, Coffee,
Juice, Lime soda,
Butter milk.

Tap water,
(given in
religious places)

## Candy, Pani puri,

pav, Pakoda.

Avengers,
Cable TV, Pay-perSpiderman, Ice
view on DTH, DVD
age, Shrek,
rentals
Batman, Immortals,
Mission Impossible.

Sporting events
like IPL, Music
Concerts,
Exhibitions,
Melas.

Relative and
friends house,
Museum.

## St. Josephs, Christ,

Jain, Jyoti Nivas,
Mounts, Kristu
Jayanti

Books, Internet,
Apprenticeship,
Seminars.

Public Colleges

Need

Entertainment

Education

Distance
Education,
Community
college.

Company Analysis
It involves a close investigative scrutiny of the
companies financial and non financial aspects with
a view to identifying its strength, weaknesses and
Company
Analysis

financial

non financial
Non Financial Factors
Marketing success
Management
Corporate Governance

Company Analysis-Non
Financial
Sales Revenue (growth)
Profitability (trend)
Product line (turnover, age)
Output rate of new products
Product innovation strategies
R&D budgets

Pricing Strategy
Patents and technology

Company Analysis-Non
Financial
Organizational performance
Effective application of company resources
Efficient accomplishment of company
goals

Management functions
Planning - setting goals/resources
Controlling - monitoring performance

Company Analysis-Non
Financial
Evaluating Management Quality
Age and experience of management
Strategic planning
Understanding of the global environment
Marketing strategy
Track record of the competitive position
Sustainable growth
Public image
Finance Strategy - adequate and appropriate
Employee/union relations
Effectiveness of board of directors

Strengths
Latest Technology

SWOT
ANALYSI
S

## Lower delivered Cost

Established products

Committed manpower

Weaknesses

Strong finances

Opportunities

Loose controls

Family funds

## Poor public image

Weaknesses

Growing domestic
demand

Price War

Expanding export
markets

Undependable component

Cheap labour
Booming capital markets
Low interest rates

Intensive competition
Suppliers
Infrastructure bottlenecks
Power cuts

Company Analysis-Financial
Operating efficiency
Productivity
Production function

## Financial Ratio Analysis

Past financial ratios
With industry, competitors, and

Regression analysis
Forecast Revenues, Expenses, Net Income
Forecast Assets, Liabilities, External
Capital Requirements

Company Analysis-Financial
Balance Sheet
Snapshot of companys Assets,
Liabilities and Equity.
Income statement
Sales, expenses, and taxes incurred
to operate
Earnings per share
Cash flow statement
Sources and Uses of funds

Company Analysis-Financial
Financial Ratio Analysis
Liquidity (ability to pay bills)
Debt (financial leverage)
Profitability (cost controls)
Efficiency (asset management)
DuPont Analysis
Top-down analysis of company
operations
Objective: increase ROE

Company Analysis-Financial
Liquidity Ratios
Measure ability to pay maturing obligations
Current ratio
Current assets / current liabilities
Quick ratio
(Current assets less inventories) / current
liabilities

Company Analysis-Financial
Debt Ratios
Measure extent to which firm uses debt to
finance asset investment (risk attribute)
Debt-equity ratio
Total long-term debt / total equity

## Total debt - total assets ratio

(Current liabilities + long-term debt) / total assets

## Times interest earned

EBIT / interest charges

Company Analysis-Financial
Profitability Ratios
Measure profits relative to sales
Gross profit margin ( % ) = Gross profit / sales
Operating Profit Margin = Operating profits /
sales
Net profit margin = Net profit after taxes / sales
ROA = Net Profit / Total Assets
ROE = Net Profit / Stockholder Equity*
* Excludes preferred stock balances

Company Analysis-Financial
Profitability Ratios
Measure effectiveness of asset management
Average collection period (in days)
Average receivables / Sales per day

## Inventory turnover (times per year)

Cost of Goods Sold / average inventory

## Total asset turnover

Sales / average total assets

## Fixed asset turnover

Sales / average net fixed assets

Company Analysis-Financial
Other Ratios
Earnings per share (EPS): (Net income after
taxes preferred dividends)/ number of shares
Price-earnings (P/E): Price per share/expected
EPS
Dividend yield: Indicated annual dividend/price
per share
Dividend payout: Dividends per share/EPS
Cash flow per share: (After-tax profits +
depreciation and other noncash
expenses)/number of shares
Book value per share: Net worth attributable
to common shareholders/number of shares

Company Analysis-Financial
Net Profits Net Profits
Sales
Total Assets
ROE

Equity
Sales
Total Assets
Equity
Ratio 1
ROE

Ratio 1 = NPM

Ratio 2

Ratio 3

Net profits

Ratio 2 = TATO

## Ratio 3 = Equity Kicker

The DuPont System suggests that ROE (which drives stock price) is a function
of cost control, asset management, and debt management.

Conclusion
The end goal of performing fundamental analysis is to produce a
value that an investor can compare with the underlying assets
current price in hopes of figuring out what sort of position to take
with that security(under priced = buy, overpriced = sell).
Valuation of Stock
The intrinsic value of a share is the present value of all future cash flows
INTRINSIC VALUE = DIVIDENDS + CAPITAL APPRECIATION

Investment decision:
1. If the market price of a share is currently lower than its intrinsic
value, such a share would be bought because it is perceived to be
under-priced.
2. A share whose current market price is higher than its intrinsic value
would be considered as overpriced and hence sold.

REFERENCES
Modern Portfolio Theory: Why It's Still Hip | Investopedia
http://www.investopedia.com/articles/06/mpt.asp#ixzz3y9Sm161d
http://www.investopedia.com/
Investment Analysis and Portfolio Management By: Reilly & Brown
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http://www.pinoymoneytalk.com/philippine-stocks-exchange-complete-list /