Question

Optimum portfolio combines investments – Please write a paper about optimizing investments in a portfolio. Global investing needs to be included. Many foreign stock and bond investments provide superior rates of return compared with U.S. securities. They have low correlations with U.S. stock and bond portfolios (Chapter 3). Discuss how the inclusion of foreign securities in a portfolio will help to reduce the overall risk of the portfolio and, in fact, may increase the rate of return to the portfolio.

Answer 1

Foreign portfolio investments provide investors with international diversification of portfolio assets, which in turn helps achieve a higher risk-adjusted return. The global stock market operates in such a way that the factors that drive one market for a particular geography at any given time are different from those that prevail in other geography. This means that an investor who has stocks in different countries will experience less volatility over the entire portfolio

Diversification can help an investor manage risk by the distribution of risk factor among the investments. For instance, you have invested Rs 1,00,000 in ABC company and Rs 2,00,000 in XYZ company. You incur a loss of Rs 50,000 in the investment of ABC and a profit of Rs 1,00,000 in the investment of XYZ company. Here, you have managed the risk of losing 50,000 by gaining Rs 1,00,000 in the investment of XYZ company. Had you have only invested in ABC company; you would have incurred a loss of Rs 50,000. Hence, diversification is one of the most important factors in creating an ideal financial portfolio.

Investors with foreign investment portfolios have a broader credit base because they can access credit in foreign countries where they have significant investments. This is advantageous when credit sources available at home are expensive or unavailable due to various factors. The ability to get credit on favorable terms and as quickly as possible can determine whether a business executes a new project or not.

Foreign markets usually are less competitive and sometimes larger. A business may make more sales selling shoes in one African country than in the entire U.S., for instance, which could potentially lead to higher returns in a portfolio.