Question 1
The probability distribution assumption on risky asset returns is that returns are stochastic and normally distributed around the mean return. This assumption allows for statistical analysis and modelling of returns.
The assumptions of the models are listed below.
i) No Transaction Cost for buying or selling an asset. Since transaction costs are normally a minimal percentage of the investment it becomes a minor importance to investors and reduces the complexity of the Capital Asset Pricing Model (CAPM).
ii) Assets are infinitely divisible. An investor can take any position in an investment, whether it is a managed fund or Australian equity. For example, buying one dollar worth of BHP Billiton Shares.
iii) Absence of personal tax.
iv) Regardless of the size of an investment, an individual cannot affect stock prices by his/herself. Similar to ‘perfect competition,’ assumptions investors as an aggregate determine prices.
v) Investors are expected to make financial decisions solely based on the expected return and variance of the returns in their desired portfolio.
vi) Unlimited short selling is legal. This is selling a security that you do not own, with the expectation of buying it back. Hence an investor may wish to short sell $50,000 worth of BHP shares.
vii) Unlimited borrowing and lending at the risk free rate.
viii) Homogeneity of expectations. Thus investors are concerned with mean and variance of returns and all investors have identical expectations with respect to these inputs to the portfolio decision.
ix) All assets are marketable, and hence can be sold and bought on a form of market.
Certain hypotheses will hold for CAPM regardless if it is a simple or two-factor general equilibrium mode...
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...t managers to be able to identify the limitations and risks associated with MVO to ensure that the estimation error is minimised and to factor in the total cost of the portfolio.
References
1) Fama, E.F.; French, K.R (2004) The Capital Asset Pricing Model: Theory and Evidence. Journal of Economic Perspectives: Volume 18.3 pp 25-46.
2) E.J. Elton, M.J. Gruber, S.J. Brown and W.N. Goetzmann, Modern Portfolio Theory and Investment Analysis, J. Wiley & Sons (8th Edition) 2009.
3) Lummer, S. L., Reipe, M. W. & Siegel, L. B., 1994. Taming Your Optimizer A Guide Through the Pitfalls of Mean - Variance Optimization. In: J. Lederman & R. A. Klein, eds. Global Asset Allocation: Techniques for Optimizing Portfolio Management. s.l.:John Wiley & Sons.
4) Rajkumar, S. and Dorfman, M. 2011.Governance and investment of public pension assets. Washington, D.C.: World Bank.
To summarize the investor does not have to obey all of these principles, unless he does not become too greedy or ambitious. Or as Graham himself explains: “To achieve satisfactory investment results is easier than most people realize; to achieve superior results is harder than it looks” (Graham B. , The Intelligent Investor S. 523-524).
Macquarie Group successful international expansion began with the accumulation of specialist skills in “real asset” management and investing. This is primarily due to its location in Australia where it benefited from two simultaneous and important developments: the willingness of governments to seek more creative forms of infrastructure finance coincided with the expansion of superannuation funds and their capacity to invest in these projects.
[1] Brennan, Deirdre, Long-Term Capital Management: Technical Note on a Global Hedge Fund, Thunderbird, 1999
...ods when the total number of buyers will dominate. Therefore, it has an incontrovertible influence of stock prices, and on the contrary, the minority of people is ready to pay towards.
...al portfolio based on risk preferences, personal constraints and investment objectives following the Mean-Variance Theory. We have applied a CPPI strategy to allocate assets dynamically over-time and highlighted its superiority compared to the Market and Benchmark Portfolios. We have used both classical (e.g. Sharpe Ratio) and advanced performance measures (e.g. T2, Omega Ratio). We have identified that much of the portfolio’s performance can be attributed to the Selection Effect. The significant MoM indicates the presence of Momentum Effect in the portfolio’s returns. We have highlighted the contribution of Omega Ratio in modern portfolio management because of its ability to capture Higher Moments. Overall, we conclude that insurance strategies, such as CPPI, can be quite useful when investors seek insurance against rapid falls in the market and crash in equities.
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Graham advocated that investors should diversify their portfolio in stocks and bonds. By doing so the investor can maintain their capital as well achieve growth in the portfolio (Myers, 2009). To overcome the market volatility investors should diverse their portfolios by investing in bonds and stocks. Graham urged the investors to avoid growth stocks since they underperform and are overpriced over a
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William Sharpe, Gordon J. Alexander, Jeffrey W Bailey. Investments. Prentice Hall; 6 edition, October 20, 1998
Brealey, Richard A., Marcus, Alan J., Myers, Stewart C. 1999, Fundamentals of Corporate Finance, 2nd edn, Craig S. Beytien, USA.
Ravi, Sreenivasan. "Statistical And Probabilistic Methods In Actuarial Science." Journal Of The Royal Statistical Society: Series A (Statistics In Society) 172.2 (2009): 530. Business Source Premier. Web. 25 Oct. 2013.
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