Modern Portfolio Theory In Finance

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The rise of automated investment services is redefining how people invest. The combination of technological advancements, financial services and sound academic research has democratized investing for the masses. Robo Advisors utilize these aspects to offer optimally constructed portfolios with exchange traded funds (ETFs) at a fraction of the cost of traditional brokers. As a result, automated investing have been collecting assets at a rapid rate. With the help of finance experts and engineers, portfolios are composed in accordance with widespread theories currently used throughout the investment industry. Most of the major automated investment services base their portfolios on a combination of Modern Portfolio Theory and Efficient Market Hypothesis.
Modern Portfolio Theory Developed by Nobel Laureate Harry Markowitz in the 1950s and later refined by other economists, Modern Portfolio Theory remains fundamental to the financial industry. By definition, Modern Portfolio Theory explains how to optimize portfolio returns for any given level of market risk. One principle of investing and the theory emphasizes that greater potential returns are associated with higher risk and conversely, the lower the risk, the lower the return. Within the framework of MPT, an optimal portfolio is constructed on the basis of asset allocation, …show more content…

By definition, rebalancing is the process of realigning one’s portfolio to its target asset allocation. When assets accrue dividends or simply fluctuate in value, rebalancing back to its target allocation intends to optimize returns for the initial level of risk. In the past, rebalancing drew criticism due to the costs of conducting transactions. However due to low overhead costs, automated advisors can provides transactions free of charge and automatically rebalance portfolios. As research suggests, rebalancing can significantly lower the risk of a

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