mandheer arora 04 portfolio management
TRANSCRIPT
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Assignment on :
PORTFOLIO
MANAGEMENT
Submitted By :
Mandheer Arora
Roll No.04
PGDM-FM (2010-12)
ITM-IFM
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OBJECTIVE OF THE FUND :
The basic objective of the fund is long term capital appreciation. It also tries to focus on providing the
investors with maximum growth opportunity through equity investments in stocks of growth oriented
sectors of the economy. In the long run, it may also evaluate emerging businesses with growth potential
and domestic focus.
RATIONALE FOR SECTOR SELECTION :
Banking Sector:
Indian banks have made good progress over the last five years, as is evident from several parameters,
including annual credit growth, profitability, and trend in gross non-performing assets (NPAs). While the
annual rate of credit growth clocked 23% during the last five years, profitability (average Return on Net
Worth) was maintained at around 15% during the same period, and gross NPAs fell from 3.3% as on
March 31, 2006 to 2.3% as on March 31, 2011.
Pharma Sector:
The government's Vision 2015 statement indicates an 18 percent plus CAGR for the pharma sector,
translating to a doubling of revenues to $40 billion over the next five years. Also, pharma sector has a
huge potential for Research & Development, so the future is always bright for pharma companies.
Oil and Gas Sector:
It is very well said that Oil drives the World, as there will be hardly any industry where oil in one form
or the other is not required, be it directly or indirectly. The Oil and Gas sector in India currently
contributes about 42% of the energy requirement of the country. Domestic production of oil is around 33
million and meets only 28 per cent of our consumption. Thus, there is a huge opportunity for oil & gas
companies to grow in future.
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RATIO ANALYSIS OF STOCKS :
I selected the following 5 stocks for my portfolio :
1. Biocon Ltd.2. Cipla Ltd.3. State Bank of India (SBI)4. Bank of Baroda (BOB)5. Reliance Industries Limited (RIL)
Biocon Ltd. :Mar '11 Mar '10 Mar '09 Mar '08 Mar '07
Dividend Per Share 4.5 3.5 3 5 3
Operating Profit Per Share (Rs) 15.86 13.16 10.46 17.63 18.76
Profitability Ratios
Net Profit Margin (%) 28.82 20.2 11.31 46.7 18.3
Return On Capital Employed(%)
23.34 16.18 14.21 13.9 16.2
Liquidity & Solvency Ratios
Current Ratio 2.06 1.53 1.44 1.16 1.28Quick Ratio 2.21 1.69 1.71 1.3 1.29
Management Efficiency
Ratios
Investments Turnover Ratio 5.1 4.82 4.91 5.19 5.82
Asset Turnover Ratio 1.21 1.13 0.95 0.98 1.02
Average Raw Material Holding 48.61 54.39 64.19 71.97 57.85
P&L A/C Ratios
Material Cost Composition 52.37 53.94 48.97 49.24 53.75Expenses as Composition ofTotal Sales
52.28 44.81 52.17 62.66 58.16
Cash Flow Indicator Ratios
Dividend Payout Ratio21.57 31.17 62.78 13.45 22.16
Earnings Per Share 22.96 12.42 5.59 43.49 15.84
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Cipla Ltd. :Mar '11 Mar '10 Mar '09 Mar '08 Mar '07
Dividend Per Share 2.80 2.00 2.00 2.00 2.00
Operating Profit Per Share (Rs)15.96 17.20 16.02 10.96 10.57
Profitability Ratios
Net Profit Margin (%)14.98 18.97 14.58 16.43 18.41
Return On Capital Employed(%)
16.22 22.16 22.39 18.17 23.40
Liquidity & Solvency Ratios
Current Ratio1.94 2.17 1.81 2.62 2.65
Quick Ratio1.56 1.57 1.93 1.88 1.76
Management Efficiency
Ratios
Investments Turnover Ratio3.73 4.18 3.79 3.83 3.74
Asset Turnover Ratio1.61 1.94 1.94 1.91 1.98
Average Raw Material Holding110.90 113.47 203.30 181.28 200.76
P&L A/C Ratios
Material Cost Composition48.83 47.94 48.01 51.44 49.26
Expenses as Composition ofTotal Sales
54.08 54.54 56.55 53.65 52.36
Cash Flow Indicator Ratios
Dividend Payout Ratio27.23 17.31 23.41 25.92 27.22
Earnings Per Share11.96 13.47 9.99 9.02 8.59
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State Bank of India :
Mar '11 Mar '10 Mar '09 Mar '08 Mar '07
Dividend Per Share30.00 30.00 29.00 21.50 14.00
Operating Profit Per Share (Rs) 255.39 229.63 230.04 173.61 147.72
Profitability Ratios
Net Profit Margin (%)8.55 10.54 12.03 11.65 10.12
Return On Net Worth (%)12.71 13.89 15.74 13.72 14.50
Management Efficiency
Ratios
Net Interest Income / Total
Funds 4.10 3.82
3.79 3.87 3.85
Asset Turnover Ratio7.24 7.26 7.20 6.32 5.44
P&L A/C Ratios
Operating Expense / TotalIncome
31.51 27.61 22.91 24.13 28.19
Balance Sheet Ratios
Capital Adequacy Ratio11.98 13.39 14.25 13.47 12.34
Advances / Loans Funds(%) 77.19 74.22 78.34 78.31 76.16
Cash Flow Indicator Ratios
Dividend Payout Ratio26.03 23.36 22.90 22.64 18.98
Earnings Per Share116.07 144.37 143.67 106.56 86.29
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Bank of Baroda :Mar '11 Mar '10 Mar '09 Mar '08 Mar '07
Dividend Per Share16.50 15.00 9.00 8.00 6.00
Operating Profit Per Share (Rs) 137.25 106.39 82.98 57.48 42.41
Profitability Ratios
Net Profit Margin (%)17.18 15.37 12.86 10.38 10.22
Return On Net Worth (%)20.20 20.24 17.35 12.99 11.86
Management Efficiency
Ratios
Net Interest Income / Total
Funds
3.39 3.30 3.26 3.24 3.21
Asset Turnover Ratio5.25 4.48 4.20 3.47 4.25
P&L A/C Ratios
Operating Expense / TotalIncome
21.98 22.53 20.88 22.70 25.68
Balance Sheet Ratios
Capital Adequacy Ratio14.52 14.36 14.05 12.91 11.80
Advances / Loans Funds(%) 78.56 77.38 81.35 75.67 74.49
Cash Flow Indicator Ratios
Dividend Payout Ratio17.76 20.90 17.22 23.75 24.59
Earnings Per Share108.33 83.96 61.14 39.41 28.18
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Reliance Industries Limited :Mar '11 Mar '10 Mar '09 Mar '08 Mar '07
Dividend Per Share 8.00 7.00 13.00 13.00 11.00
Operating Profit Per Share (Rs.)115.58 91.64 153.47 154.32 146.44
Profitability Ratios
Net Profit Margin (%)8.08 8.35 10.65 14.45 10.64
Return On Capital Employed(%)
12.60 11.35 10.96 15.68 18.00
Liquidity & Solvency Ratios
Current Ratio
1.22 1.11 1.08 1.01 0.77
Quick Ratio1.01 0.76 0.90 0.94 0.69
Debt Equity Ratio0.46 0.49 0.65 0.46 0.45
Management Efficiency
Ratios
Debtors Turnover Ratio17.05 23.67 26.29 26.87 28.29
Investments Turnover Ratio9.59 8.29 12.92 10.57 10.65
Average Raw Material Holding 27.16 36.56 21.00 33.46 20.91
Number of Days In WorkingCapital
44.09 28.13 26.94 33.69 14.03
P&L A/C Ratios
Material Cost Composition79.82 80.00 76.98 73.86 72.32
Imported Composition of RawMaterials Consumed
91.71 95.39 95.74 93.96 94.04
Expenses as Composition of
Total Sales
56.64 53.46 61.22 56.80 52.40
Cash Flow Indicator Ratios
Dividend Payout Ratio13.66 14.97 14.49 9.80 13.75
Earnings Per Share108.33 83.96 61.14 39.41 28.18
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Correlation :
In financial terms, correlation tells us how two securities move in relation to each other.
Correlation ranges from -1 to +1. Perfect positive correlation (a correlation co-efficient of +1)
implies that as one security moves, either up or down, the other security will move in thesame direction. Alternatively, perfect negative correlation means that if one security moves in
either direction the security that is perfectly negatively correlated will move in the opposite
direction. If the correlation is 0, the movements of the securities are said to have no
correlation; they are completely random.
So, the correlation for my stocks is :
Correlation
BOB Cipla Biocon RIL SBI nifty
BOB 1
Cipla 0.280704 1
Biocon 0.298149 0.277507 1
RIL 0.369184 0.316547 0.287003 1
SBI 0.691098 0.325802 0.356702 0.459123 1
nifty 0.613449 0.493002 0.445823 0.664128 0.748509 1
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Construction of a Portfolio
To achieve the above objective I used Markowitz Portfolio Theory or Modern Portfolio
Theory.
Assumptions of Markowitz Portfolio Theory
1. Asset returns are (jointly) normally distributed random variables. In fact, it isfrequently observed that returns in equity and other markets are not normally
distributed. Large swings (3 to 6 standard deviations from the mean) occur in the
market far more frequently than the normal distribution assumption would predict.
2. Correlations between assets are fixed and constant forever. Correlations dependon systemic relationships between the underlying assets, and change when these
relationships change.
3. All investors are rational and risk-averse. This is another assumption ofthe efficient market hypothesis, but we now know from behavioral economics thatmarket participants are not rational. It does not allow for "herd behavior" or investors
who will accept lower returns for higher risk.
4. All investors have access to the same information at the same time. In fact, realmarkets contain information asymmetry, insider trading, and those who are simply
better informed than others.
5. Investors have an accurate conception of possible returns, i.e., the probabilitybeliefs of investors match the true distribution of returns. A different possibility is
that investors' expectations are biased, causing market prices to be informational
inefficient.6. There are no taxes or transaction costs. Real financial products are subject both to
taxes and transaction costs (such as broker fees), and taking these into account will
alter the composition of the optimum portfolio.
7. All investors are price takers, i.e., their actions do not influence prices. In reality,sufficiently large sales or purchases of individual assets can shift market prices for
that asset and others (via cross-elasticity of demand.) An investor may not even be
able to assemble the theoretically optimal portfolio if the market moves too much
while they are buying the required securities.
8. Any investor can lend and borrow an unlimited amount at the risk free rate ofinterest. In reality, every investor has a credit limit.
Modern portfolio theory (MPT) is a theory ofinvestment which attempts to maximize
portfolio expected return for a given amount of portfolio risk, or equivalently
minimize riskfor a given level of expected return, by carefully choosing the proportions of
various assets.
MPT is a mathematical formulation of the concept ofdiversification in investing, with the
aim of selecting a collection of investment assets that has collectively lower risk than anyindividual asset. That this is possible can be seen intuitively because different types of assets
http://en.wikipedia.org/wiki/Joint_probability_distributionhttp://en.wikipedia.org/wiki/Normal_distributionhttp://en.wikipedia.org/wiki/Randomhttp://en.wikipedia.org/wiki/Risk-aversehttp://en.wikipedia.org/wiki/Efficient_market_hypothesishttp://en.wikipedia.org/wiki/Behavioral_economicshttp://en.wikipedia.org/wiki/Rational_choice_theoryhttp://en.wikipedia.org/wiki/Information_asymmetryhttp://en.wikipedia.org/wiki/Insider_tradinghttp://en.wikipedia.org/w/index.php?title=Cross-elasticity_of_demand&action=edit&redlink=1http://en.wikipedia.org/wiki/Investmenthttp://en.wikipedia.org/wiki/Rate_of_returnhttp://en.wikipedia.org/wiki/Financial_riskhttp://en.wikipedia.org/wiki/Assethttp://en.wikipedia.org/wiki/Diversification_(finance)http://en.wikipedia.org/wiki/Diversification_(finance)http://en.wikipedia.org/wiki/Assethttp://en.wikipedia.org/wiki/Financial_riskhttp://en.wikipedia.org/wiki/Rate_of_returnhttp://en.wikipedia.org/wiki/Investmenthttp://en.wikipedia.org/w/index.php?title=Cross-elasticity_of_demand&action=edit&redlink=1http://en.wikipedia.org/wiki/Insider_tradinghttp://en.wikipedia.org/wiki/Information_asymmetryhttp://en.wikipedia.org/wiki/Rational_choice_theoryhttp://en.wikipedia.org/wiki/Behavioral_economicshttp://en.wikipedia.org/wiki/Efficient_market_hypothesishttp://en.wikipedia.org/wiki/Risk-aversehttp://en.wikipedia.org/wiki/Randomhttp://en.wikipedia.org/wiki/Normal_distributionhttp://en.wikipedia.org/wiki/Joint_probability_distribution -
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often change in value in opposite ways.[2]For example, to the extent prices in the stock
market move differently from prices in the bond market, a collection of both types of assets
can in theory face lower overall risk than either individually. But diversification lowers risk
even if assets' returns are not negatively correlatedindeed, even if they are positively
correlated.
More technically, MPT models an asset's return as a normally distributed function (or more
generally as an elliptically distributed random variable), defines riskas the standard
deviationof return, and models a portfolio as a weighted combination of assets, so that the
return of a portfolio is the weighted combination of the assets' returns. By combining
different assets whose returns are not perfectly positively correlated, MPT seeks to reduce the
total variance of the portfolio return. MPT also assumes that investors are rational and
markets are efficient.
The fundamental concept behind MPT is that the assets in an investment portfolio should not
be selected individually, each on their own merits. Rather, it is important to consider how
each asset changes in price relative to how every other asset in the portfolio changes in price.
Investing is a tradeoff between riskand expected return. In general, assets with higher
expected returns are riskier. For a given amount of risk, MPT describes how to select a
portfolio with the highest possible expected return. Or, for a given expected return, MPT
explains how to select a portfolio with the lowest possible risk.
Risk and Expected Return under the Theory
MPT assumes that investors are risk-averse, meaning that given two portfolios that offer the
same expected return, investors will prefer the less risky one. Thus, an investor will take on
increased risk only if compensated by higher expected returns. Conversely, an investor who
wants higher expected returns must accept more risk. The exact trade-off will be the same for
all investors, but different investors will evaluate the trade-off differently based on individual
risk aversion characteristics. The implication is that a rational investor will not invest in a
portfolio if a second portfolio exists with a more favorable risk-expected return profilei.e.,
if for that level of risk an alternative portfolio exists which has better expected returns.
Under the model:
Portfolio return is the proportion-weighted combination of the constituent assets' returns. Portfolio volatility is a function of the correlations ij of the component assets, for all
asset pairs (i, j).
The formulae which have been used to get optimum portfolio and desired weights are as
follows:
In general:
http://en.wikipedia.org/wiki/Modern_portfolio_theory#cite_note-1http://en.wikipedia.org/wiki/Modern_portfolio_theory#cite_note-1http://en.wikipedia.org/wiki/Modern_portfolio_theory#cite_note-1http://en.wikipedia.org/wiki/Stock_markethttp://en.wikipedia.org/wiki/Stock_markethttp://en.wikipedia.org/wiki/Bond_markethttp://en.wikipedia.org/wiki/Normal_distributionhttp://en.wikipedia.org/wiki/Elliptical_distributionhttp://en.wikipedia.org/wiki/Random_variablehttp://en.wikipedia.org/wiki/Riskhttp://en.wikipedia.org/wiki/Standard_deviationhttp://en.wikipedia.org/wiki/Standard_deviationhttp://en.wikipedia.org/wiki/Correlatedhttp://en.wikipedia.org/wiki/Variancehttp://en.wikipedia.org/wiki/Homo_economicushttp://en.wikipedia.org/wiki/Efficient_market_hypothesishttp://en.wikipedia.org/wiki/Assethttp://en.wikipedia.org/wiki/Portfolio_(finance)http://en.wikipedia.org/wiki/Riskhttp://en.wikipedia.org/wiki/Return_(finance)http://en.wikipedia.org/wiki/Rationalityhttp://en.wikipedia.org/wiki/Risk-return_spectrumhttp://en.wikipedia.org/wiki/Linear_combinationhttp://en.wikipedia.org/wiki/Correlationhttp://en.wikipedia.org/wiki/Correlationhttp://en.wikipedia.org/wiki/Linear_combinationhttp://en.wikipedia.org/wiki/Risk-return_spectrumhttp://en.wikipedia.org/wiki/Rationalityhttp://en.wikipedia.org/wiki/Return_(finance)http://en.wikipedia.org/wiki/Riskhttp://en.wikipedia.org/wiki/Portfolio_(finance)http://en.wikipedia.org/wiki/Assethttp://en.wikipedia.org/wiki/Efficient_market_hypothesishttp://en.wikipedia.org/wiki/Homo_economicushttp://en.wikipedia.org/wiki/Variancehttp://en.wikipedia.org/wiki/Correlatedhttp://en.wikipedia.org/wiki/Standard_deviationhttp://en.wikipedia.org/wiki/Standard_deviationhttp://en.wikipedia.org/wiki/Riskhttp://en.wikipedia.org/wiki/Random_variablehttp://en.wikipedia.org/wiki/Elliptical_distributionhttp://en.wikipedia.org/wiki/Normal_distributionhttp://en.wikipedia.org/wiki/Bond_markethttp://en.wikipedia.org/wiki/Stock_markethttp://en.wikipedia.org/wiki/Stock_markethttp://en.wikipedia.org/wiki/Modern_portfolio_theory#cite_note-1 -
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Expected return:
where Rp is the return on the portfolio, Ri is the return on asset i and wi is the
weighting of component asset i (that is, the share of asset i in the portfolio).
Portfolio return variance:
where ij is the correlation coefficient between the returns on assets i and j.
Alternatively the expression can be written as:
,
where ij = 1 for i=j.
Portfolio return volatility (standard deviation):
For a two asset portfolio:
Portfolio return:
Portfolio variance:For a three asset portfolio:
Portfolio return: Portfoliovariance:
http://en.wikipedia.org/wiki/Pearson_product-moment_correlation_coefficienthttp://en.wikipedia.org/wiki/Pearson_product-moment_correlation_coefficient -
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If we represent our objective through a diagram we make this diagram
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Result:
Company
Weight
(%)
Amt.
to
invest
Priceas on
1st
Nov.
2011
Priceas on
13th
Jan
2012
No. of
shares
Value on
1st
Nov2011
Value on
12th
Jan 2012
BOB 20% 10 lacs 798 727 25 2,00,000 182205.51
Cipla 43% 10 lacs 289 338.5 1487 4,30,000 503650.51
Biocon 24% 10 lacs 348 267.1 689 2,40,000 184206.89
RIL 7% 10 lacs 860 728 81 70,000 59255.81
SBI 6% 10 lacs 1901 1776 31 60,000 56054.70
PortfolioValue 10,00,000 9,85,373.45
Sensex 17,480.83 16154.62
Portfolios
Return -1%
Sensexs
Return -8%
Net loss in the portfolio is of Rs. 14626.55 which is approximately 1% where as the Sensex
has suffered a loss of approximately 8% i.e. fall from 17480.83 to 16154.62.
Hence, it can be concluded that the portfolio has performed better than the Sensex.