Question

Explain how an investor can use the separation theorem and utility theory to produce an efficient portfolio suitable for his/her level of risk tolerance.

Answer 1

Separation theory will be stating that the primary goal of any organisation is to increase the present value to the greatest extent possible and it will be focusing on opportunities related to shareholder focus on the stock market opportunities in order to maximize its overall value in the market.

Utility theory will be advocating that individual preference is based upon premise that people can constantly rank their choices which will be dependent upon their preference and each individual will be having different preferences and individual preferences are intrinsic.

Separation theory will be helping in determining all such companies which are striving in maximizing their overall market capitalisation and finding those company and investing into the shares of this company because it will help in the overall investment which has been made in this company so shareholder will be gaining to Capital appreciation in those companies.

Utility theory will be helpful for the shareholder in determining his risk appetite & risk tolerance and he will be trying to synchronise his risk with the return in his overall portfolio and he will be designing a Portfolio which will be based upon his intrinsic preference and hence it can be said that utility theory as well as separation theory will be helpful in determining the risk and return and identification of those companies which will be matching with the preference of the investors.