Portfolio Management

1. Asset allocation
2. Weighting shifts across major asset classes
3. Security selection within asset classes

Key theories:
- Portfolio Theory
- Capital Market Theory
- Security Valuation
- Market Efficiency
- Derivative valuation

Portfolio Management Process:

1. Planning
2. Execution
3. Feedback
   

Planning:

• Identify/specify investor's objectives and constraints
• Create Investment Policy Statement
• Form Capital Market expectations
• Create strategic asset allocation (combine IPS with capital market expectations to determine target asset class weights; max/min; single or multi-perspective)

Execution:

• Specific asset allocation
• Portfolio optimization
• Tactical asset allocation (responds to changes in short-term capital market expectations rather than investor circumstances)

Feedback:

• Monitoring/rebalancing
• Performance evaluation

Portfolio Management: CFA

• CFA level III thinks in terms of Investment Policy Statement
• IPS is client-specific summation of circumstances, goals and objectives, constraints, and policies that govern the relationship between the Advisor and the Client.
  
• Components could include:

- Background/Goals (use situational and psychological profiling)
- Return objective (sufficient to meet goals; don't forget inflation)
- Risk Objective/Tolerance (driven by Willingness and Ability to take risk; also has to be in line with Return Objective)
- Constraints (TTLLU = Time Horizon, Taxes, Liquidity, Legal/regulatory, Unique circumstances)
- Asset allocation (driven by risk/return profile - diversify, optimize return for given risk level, maximize likelihood of achieving goals, etc.)
- Portfolio Monitoring/Rebalancing/Evaluation

Risk
- Measured: Variance (volatility), Standard Deviation, Value at Risk
- Willingness
- Ability
- How much risk can investor bear?
Return
- Measured: Total Return - price appreciation plus income, Nominal (unadjusted for inflation) vs Real (inflation adjusted), Pre-tax vs After-tax
- How much does investor want?
- How much does investor need? Required Return
- Specific Return Objectives? Combine return desired, needed and risk objectives into measurable total annual return specification.

EMT

Most of these blogs from now are for my courses and my love : Portfolio Management, Financial (Equity market). Sentences are from books and from my professors'. (Ed Harding)

Finance Quote of the week:
"Diversification serves as protection against ignorance. If you want to make sure that nothing bad happens to you relative to the market, you should own everything. There is nothing wrong with that. It's a perfectly sound approach for somebody who doesn't know how to analyze businesses. Modern Portfolio Theory will tell you how to do average. But I think almost anybody can figure out how to do average in the fifth grade."
(Warren Buffet, Outstanding Investor Digest, August 8, 1996.)

Efficient Market Theory (EMT)
Eugene Fama
Fama's message: Stock prices are not predictable because the market is too efficient. In an efficient market, as information becomes available, a great many smart people ('rational profit maximizers') aggressively apply that information in a way that causes prices to adjust simultaneously, before anyone can profit. Thus, predictions of the future have no place because share prices adjust too quickly.

EMT = Random Walk Theory

Reason EMT not defensible:
- Investors are not always rational.
- Investors do not process info correctly
- Short-term yardsticks dominate (How are managers evaluated? If you are focused on short-term, how can you outperform in the long term?)

Warren Buffet on EMT: "With each investment you make, you should have the courage and the conviction to place at least 10% of your net worth in that stock."

EMT disproved
1. John Keynes
From 1927 to 1945, Keynes had responsibility for Chest Fund at King's College in Cambridge. He was a focus investor - relied on fundamental analysis to select a few stocks to buy and hold - focused on high quality companies to manage risk. Average return of 13% vs UK market return flat. Standard deviation of 29% vs UK market 12%.
2. Buffet Partnership, Ltd
3. Charles Munger Partnership
4. Sequoia Fund (Bill Ruane)
5. Lou Simpson (Geico)

Other EMT 'anomalies'
- Super Bowl effect
- Mark Twain effect ('October effect')
- January effect
- Halloween indicator (sell in May and go away)