Question

Is the Morkowitz Theory the best Approach for all Portfolios? Explain Markowitzâs train of thought about why investors should seek an efficient portfolio.

 

Answer 1

Modern portfolio theory (MPT) is an idea of ​​how non-risky investors can build portfolios to maximize expected returns based on a certain level of market risk. Harry Markowitz pioneered this idea in his paper "Portfolio Selection," which was published in the 1952 Financial Journal. He was later awarded the Nobel Prize for his work on modern portfolio theory.

Modern portfolio theory argues that the risk and return characteristics of an investment should not be seen in isolation, but should be used to assess how the investment affects the risk and return of the entire portfolio. MPT shows that an investor can build a multi-asset portfolio that maximizes returns to a given level of risk. Similarly, an investor can build a portfolio with as little risk as possible, given the expected return on return. Based on statistical measures such as variance and correlation, how an individual's investment performance affects the overall portfolio is less important

thus it can be said that Morkowitz Theory is the best Approach for all Portfolios.

While the benefits of diversification are clear, investors need to determine the level of diversification that best suits them. This can be determined by what is called the Efficient Frontier, a graphical representation of all combinations of risky securities for the right level of return given a certain level of risk.

- Return At each level, investors can create a portfolio that offers as little loss as possible.
- Risk For each level of risk, investors can create a portfolio that offers the highest returns.

Any portfolio that comes out of the effective border is considered sub-optimal for one of two reasons: it has a very high risk of recurrence or a very low return on its risk. A portfolio below the effective boundary does not yield sufficient returns compared to the risk level. Portfolios on the right side of the effective border carry a high level of risk at a defined rate.

At each stage of the effective frontier, investors can build at least one portfolio out of all available investments, which carries a risk-taking loss and returns accordingly. A portfolio that appears at the top of the curve is effective because it gives the maximum return on a given level of risk.

Provides a clear demonstration of the power behind effective boundary diversification. There is no effective boundary, because investors can change the number and characteristics of assets to suit their needs.