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Finance

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The State Street Investor Confidence Index measures investor confidence or risk appetite quantitatively by analyzing the actual buying and selling patterns of institutional investors. The index assigns a precise meaning to changes in investor risk appetite: the greater the percentage allocation to equities, the higher risk appetite or confidence 2..Japanese Candlesticks A candlestick chart is a style of bar-chart used primarily to describe price movements of a security, derivative, or currency over time. It is a combination of a line-chart and a bar-chart, in that each bar represents the range of price movement over a given time interval. It is most often used in technical analysis of equity and currency price patterns. They appear superficially similar to error bars, but are unrelated. Candlesticks are a method of charting prices for financial markets. They were the precursor to the modern-day bar chart and are used today as an analytical tool by technical traders. They are very similar to bar charts in that they are built using only four pieces of data: Opening, high, low and closing prices. It is important to realize that candlesticks do not tell you anything different than a bar chart because they are based on exactly the same data. However, candlesticks make certain patterns much easier to recognize.

Just like bar charts, candlesticks can be used in any time frame and are best used in conjunction with other technical indicators

The height of the real body is the difference between the periods open and close. If the real body is white (hollow), the close was higher than the open; it was an up period. If the real body is black (solid), the close was lower than the open; it was a down period. When the opening and closing prices are the same, there is no real body. These types of candles are called doji and usually signify a market in balance.

Heres how youd read the candles above: #1 - open, close and low were all the same #2 - open and close were the same #3 close was lower than the open #4 opened at the periods low, closed at the periods high #5 opened at the periods high

Candlesticks are usually composed of the body (black or white), and an upper and a lower..2 shadow (wick): the area between the open and the close is called the real body, price excursions above and below the real body are called shadows. The wick illustrates the highest and lowest traded prices of a security during the time interval represented. The body illustrates the opening and closing trades. If the security closed higher than it opened, the body is white or unfilled, with the opening price at the bottom of the body and the closing price at the top. If the security closed lower than it opened, the body is black, with the opening price at the top and the closing price at the bottom. A candlestick need not have either a body or a wick. To better highlight price movements, modern candlestick charts (especially those displayed digitally) often replace the black or white of the candlestick body with colors such as red (for a lower closing) and blue or green (for a higher closing).

Candlestick patterns

In addition to the rather simple patterns depicted in the section above, there are more complex and difficult patterns which have been identified since the charting method's inception. Complex patterns can be colored or highlighted for better visualization. Candlestick charts also convey more information than other forms of charts, such as Open-highlow-close charts. Just as with bar charts, they display the absolute values of the open, high, low, and closing price for a given period. But they also show how those prices are relative to the prior periods' prices, so one can tell by looking at one bar if the price action is higher or lower than the prior one. They are also visually easier to look at and can be coloured for even better definition. Rather than using the open-high-low-close for a given time period (for example, 5 minute, 1 hour, 1 day, 1 month), candlesticks can also be constructed using the open-high-lowclose of a specified volume range (for example, 1,000; 100,000; 1 million shares per candlestick). Use of candlestick charts Candlestick charts are a visual aid for decision making in stock, foreign exchange, commodity, and option trading. For example, when the bar is white and high relative to other time periods, it means buyers are very bullish. The opposite is true for a black bar. Bulls Versus Bears A candlestick depicts the battle between Bulls (buyers) and Bears (sellers) over a given period of time. An analogy to this battle can be made between two football teams, which we can also call the Bulls and the Bears. The bottom (intra-session low) of the candlestick represents a touchdown for the Bears and the top (intra-session high) a touchdown for the Bulls. The closer the close is to the high, the closer the Bulls are to a touchdown. The closer the close is to the low, the closer the Bears are to a touchdown. While there are many variations What Candlesticks Don't Tell You Candlesticks do not reflect the sequence of events between the open and close, only the relationship between the open and the close. The high and the low are obvious and indisputable, butcandlesticks (and bar charts) cannot tell us which came first.

3..Efiicient frontier

The efficient frontier represents that set of portfolios with the maximum rate of return for every given level of risk, or the minimum risk for every level of return Frontier will be portfolios of investments rather than individual securities Exceptions being the asset with the highest return and the asset with the lowest risk

The Efficient Frontier and Investor Utility..3 The slope of the efficient frontier curve decreases steadily as we move upward (from left to right) on the efficient frontier What does this decline in slope means? Adding equal increments of risk gives you diminishing increments of expected return An individual investors utility curves specify the trade-offs investor is willing to make between expected return and risk In conjunction with the efficient frontier, these utility curves determine which particular portfolio on the efficient frontier best suits an individual investor. Can two investors will choose the same portfolio from the efficient set? Only if their utility curves are identical Which portfolio is the optimal portfolio for a given investor? One which has the highest utility for a given investor given by the tangency between the efficient frontier and the curve with highest possible utility The efficient frontier is a concept in modern portfolio theory introduced by Harry Markowitz and others. A combination of assets, i.e. a portfolio, is referred to as "efficient" if it has the best possible expected level of return for its level of risk(usually proxied by the standard deviation of the portfolio's return).[1] Here, every possible combination of risky assets, without including any holdings of the risk-free asset, can be plotted in risk-expected return space, and the collection of all such possible portfolios defines a region in this space. The upward-sloped part of the left boundary of this region, ahyperbola, is then called the "efficient frontier". The efficient frontier is the positively sloped portion of the opportunity set that offers the highest expected return for a given level of risk. The efficient frontier lies at the top of the opportunity set or the feasible set A graphical representation of the set of portfolios giving the highest level of expected return at different levels of risk. Harry Markowitz theorized that each level of risk contains one combination of assets giving the highest expected return. An efficient set of portfolios is represented as a line on a graph with risk as the x-axis and expected return as the y-axis; this representation is the Markowitz efficient frontier. See also: Markowitz Efficient Portfolio, Homogeneous Expectations Assumption. What Does Efficient Frontier Mean? A line created from the risk-reward graph, composed of optimal portfolios that reflect various portfolio diversification strategies ranging from a most conservative all-cash portfolio to a most aggressive all-equity portfolio. The optimal portfolios plotted along the curve have the highest expected return possible for the given amount of risk.

4.

4..What is the difference between fundamental and technical analysis? These terms refer to two different stock-picking methodologies used for researching and forecasting the future growth trends of stocks. Like any investment strategy or philosophy, both have their advocates and adversaries. Here are the defining principles of each of these methods of stock analysis: Technical analysis and fundamental analysis are the two main attentions in the financial markets. Mainly, technical analysis looks at the price movement of a security and uses this data to predict its future price movements. Fundamental analysis, on the other hand, looks at economic factors, known as fundamentals. Lets see how it works to determine the correct value of stock and how technical and fundamental analysis can be used together to analyze securities.

Fundamental analysis is a method of evaluating securities by attempting to measure the intrinsic value of a stock. Fundamental analysts study everything from the overall economy and industry conditions to the financial condition and management of companies. Technical analysis is the evaluation of securities by means of studying statistics generated by market activity, such as past prices and volume. Technical analysts do not attempt to measure a security's intrinsic value but instead use stock charts to identify patterns and trends that may suggest what a stock will do in the future. 5.Systematic and unsystematic risk While systematic risk is common to all companies and has to be borne by investor and compensated by the risk premium, Whereas the unsystematic risk can be reduced by the investor through proper diversification and planning a proper investment strategy for the purpose. Systematic Risk: It is arise on account of the economy-wide uncertainties and the tendency of individual securities to move together with changes in the market. It is also known as market risk. It is arise out of external and uncontrollable factors, arising out of the market, nature of the industry and state of economy and host of other factors. These risk cannot be uncontrollable.

Market risk:1. This arise out of changes in demand & supply pressures in the market. 2. The totality of investor perception and subjective factors influence the events in the market which are unpredictable and not controllable.

Interest Rate Risk:1. The return on investment depends on the interest rate promised on it and changes in market rates of interest from time to time. 2. This interest rates depends on nature of instrument, stocks, bonds, etc. maturity of the periods and creditworthiness of the issuer security. Purchasing power risk:1. Inflation or rise in prices lead to rise in cost of production, lower margins, wage rise etc. 2. The return expected by investor will change due to change in real value of returns. Some other example of systematic risk includes:1. The government changes the interest rate policy. 2. The inflation rate increases. 3. The RBI promulgates a restrictive credit policy. 4. The government relaxes the foreign exchange controls and announces full convertibility of Indian rupee. 5. The government withdraw tax on dividend payments by companies. Unsystematic Risk:1. It is arise from unique uncertainties of individual securities. These uncertainties are diversified if a large numbers of securities are combined to form well-diversified portfolios. 2. It is also known as unique risk. 3. It is arise out of known and controllable factors, internal to the issuer of the securities or companies. 4. These risk can be controllable. Examples of unsystematic risk: Business Risk:This relates to the variability of the business, sales, income, profits etc. which in turn depend on market condition for product mix This risk sometime external to the company due to changes in government policy, of strategies of competitor.

Financial Risk:This relates to method of financing, adopted by Company, delayed receivables and fall in current assets Insolvency Risk:The borrower may become insolvent or may default, or delay the payments due, such as interest instalments or principal repayments. Borrowers credit rating might have fallen suddenly and he bacame insolvent In such cases, the investor may get no return or negative return. 1. 2. 3. 4. 5. Some other example of unsystematic risk includesThe company workers declare strike . The R & D expert leaves the company. The company loses a big contract in a bid. The company makes a break through in process innovation. The company is unable to obtain adequate quantity of raw material.

6..Markowitz Diversification..6 Diversification of a portfolio with appropriate regard for the mathematical formulas in Markowitz portfolio theory. That is, Markowitz diversification occurs when one uses mathematical models to find the securities to place in a portfolio such that the portfolio has the highest possible return for its level of risk. One may engage in Markowitz diversification when one wishes to increase or decrease one's portfolio's risk, or when the portfolio was previously not diversified. See also: Markowitz portfolio theory. A strategy that seeks to combine assets a portfolio with returns that are less than perfectly positively correlated, in an effort to lower portfolio risk (variance) without sacrificing return. Related: naive diversification Combining assets that are less than perfectly positively correlated in order to reduce portfolio risk without sacrificing portfolio returns. It is more analytical than simple diversification and considers assets correlations. The lower the correlation among assets, the more will be risk reduction through Markowitz diversification Example of Markotwitzs Diversification The emphasis in Markowitzs Diversification is on portfolio expected return and portfolio risk Portfolio Expected Return A weighted average of the expected returns of individual securities in the portfolio. The weights are the proportions of total investment in each security n E(Rp) = wi x E(Ri) i=1 Where n is the number of securities in the portfolio Significance of Covariance An absolute measure of the degree of association between the returns for a pair of securities. The extent to which and the direction in which two variables co-vary over time What is correlation Perfect positive correlation 1. The returns have a perfect direct linear relationship 2. Knowing what the return on one security will do allows an investor to forecast perfectly what the other will do Perfect negative correlation 1. Perfect inverse linear relationship Zero correlation 1. No relationship between the returns on two securities Combining securities with perfect positive correlation or high positive correlation does not reduce risk in the portfolio Combining two securities with zero correlation reduces the risk of the portfolio. However, portfolio risk cannot be eliminated Combining two securities with perfect negative correlation could eliminate risk altogether Portfolio Analysis Job of a portfolio manager is to use these risk and return statistics in choosing/combining assets in such a way that will result in minimum risk at a given level of return, also called efficient portfolios Select investment weights in such a manner that it results in a portfolio that has minimum risk at a desired level of return, i.e., efficient portfolios As we change desired level of return, our efficient combination of securities in the portfolio will change

Therefore, we can get more than one efficient portfolio at different risk-return ..7 combinations The concept of Efficient Frontier The Efficient Frontier and Investor Utility The slope of the efficient frontier curve decreases steadily as we move upward (from left to right) on the efficient frontier What does this decline in slope means? 2. Adding equal increments of risk gives you diminishing increments of expected return An individual investors utility curves specify the trade-offs investor is willing to make between expected return and risk In conjunction with the efficient frontier, these utility curves determine which particular portfolio on the efficient frontier best suits an individual investor. Can two investors will choose the same portfolio from the efficient set? 3. Only if their utility curves are identical Which portfolio is the optimal portfolio for a given investor? 4. One which has the highest utility for a given investor given by the tangency between the efficient frontier and the curve with highest possible utility

The Processes On Demand portfolio management process is a best practice for management of the projects and programs of the portfolio. The portfolio management process steps include: Portfolio Management Process 1. Identification 2. Categorization 3. Evaluation 4. Selection 5. Prioritization 6. Balancing 7. Authorization 8. Review and Reporting 9. Strategic Change

Literature supports the efficient markets paradigm

1. 2. 1. 2.

On a well-developed securities exchange, asset prices accurately reflect the tradeoff between relative risk and potential returns of a security Efforts to identify undervalued undervalued securities are fruitless Free lunches are difficult to find Market efficiency and portfolio management A properly constructed portfolio achieves a given level of expected return with the least possible risk Portfolio managers have a duty to create the best possible collection of investments for each customers unique needs and circumstances

Purpose of Portfolio Management Portfolio management primarily involves reducing risk rather than increasing return Consider two $10,000 investments: 1. Earns 10% per year for each of ten years (low risk) 2. Earns 9%, -11%, 10%, 8%, 12%, 46%, 8%, 20%, -12%, and 10% in the ten years, respectively (high risk) Low Risk vs. High Risk Investments 1. Earns 10% per year for each of ten years (low risk) Terminal value is $25,937 2. Earns 9%, -11%, 10%, 8%, 12%, 46%, 8%, 20%, -12%, and 10% in the ten years, respectively (high risk) Terminal value is $23,642 The lower the dispersion of returns, the greater the terminal value of equal investments

The Six Steps of Portfolio Management..8 3. Learn the basic principles of finance 4. Set portfolio objectives 5. Formulate an investment strategy 6. Have a game plan for portfolio revision 7. Evaluate performance 8. Protect the portfolio when appropriate

PART ONE: Background, Basic Principles, and Investment Policy PART TWO: Portfolio Construction PART THREE: Portfolio Management PART FOUR: Portfolio Protection and Contemporary Issues PART ONE: A person cannot be an effective portfolio manager without a solid grounding in the basic principles of finance Egos sometimes get involved 1. Take time to review simple material 2. Fluff and bluster have no place in the formation of investment policy or strategy There is a distinction between good companies and good investments 1. The stock of a well-managed company may be too expensive 2. The stock of a poorly-run company can be a great investment if it is cheap enough The two key concepts in finance are: 1. A dollar today is worth more than a dollar tomorrow 2. A safe dollar is worth more than a risky dollar These two ideas form the basis for all aspects of financial management Other important concepts 1. The economic concept of utility 2. Return maximization Setting objectives 1. It is difficult to accomplish your objectives until you know what they are 2. Terms like growth or income may mean different things to different people

Investment policy..9 1. The separation of investment policy from investment management is a fundamental tenet of institutional money management Board of directors or investment policy committee establish policy Investment manager implements policy PART TWO Formulate an investment strategy based on the investment policy statement Portfolio managers must understand the basic elements of capital market theory 1. Informed diversification 2. Nave diversification 3. Beta International investment 1. Emerging markets carry special risk 2. Emerging markets may not be informationally efficient Stock categories and security analysis 1. Preferred stock 2. Blue chips, defensive stocks, cyclical stocks 3. Security screening 4. A screen is a logical protocol to reduce the total to a workable number for closer investigation

Debt securities Pricing Duration Enables the portfolio manager to alter the risk of the fixed-income portfolio component Bond diversification

Pension funds 1. Significant holdings in gold and timberland (real assets) 2. In many respects, timberland is an ideal investment for long-term investors with no liquidity problems PART THREE Subsequent to portfolio construction: Conditions change Portfolios need maintenance Passive management has the following characteristics: 1. Follow a predetermined investment strategy that is invariant to market conditions or 2. Do nothing 3. Let the chips fall where they may Active management: 1. Requires the periodic changing of the portfolio components as the managers outlook for the market changes Options and option pricing 1. Black-Scholes Option Pricing model 2. Option overwriting A popular activity designed to increase the yield on a portfolio in a flat market Use of stock options under various portfolio scenarios 1. 2. Performance evaluation Did the portfolio manager do what he or she was hired to do? Someone needs to verify that the firm followed directions Interpreting the numbers How much did the portfolio earn? How much risk did the portfolio bear?

3. Must consider return in conjunction with risk..10 More complicated when there are cash deposits and/or withdrawals More complicated when the manager uses options to enhance the portfolio yield Fiduciary duties 1. Responsibilities for looking after someone elses money and having some discretion in its investment PART FOUR: Portfolio protection 1. Called portfolio insurance prior to 1987 2. A managerial tool to reduce the likelihood that a portfolio will fall in value below a predetermined level Futures Related to options Use of derivative assets to: 1. Generate additional income 2. Manage risk Interest rate risk Duration Contemporary issues 1. Derivative securities 2. Tactical asset allocation 3. Program trading 4. Stock lending 5. CFA program

7.'Arbitrage Pricing Theory - APT' An asset pricing model based on the idea that an asset's returns can be predicted using the relationship between that same asset and many common risk factors. Created in 1976 by Stephen Ross, this theory predicts a relationship between the returns of a portfolio and the returns of a single asset through a linear combination of many independent macro-economic variables. The arbitrage pricing theory (APT) describes the price where a mispriced asset is expected to be. It is often viewed as an alternative to the capital asset pricing model (CAPM), since the APT has more flexible assumption requirements. Whereas the CAPM formula requires the market's expected return, APT uses the risky asset's expected return and the risk premium of a number of macro-economic factors. Arbitrageurs use the APT model to profit by taking advantage of mispriced securities. A mispriced security will have a price that differs from the theoretical price predicted by the model. By going short an over priced security, while concurrently going long the portfolio the APT calculations were based on, the arbitrageur is in a position to make a theoretically risk-free profit. Arbitrage - arises if an investor can construct a zero investment portfolio with a sure profit Since no investment is required, an investor can create large positions to secure large levels of profit In efficient markets, profitable arbitrage opportunities will quickly disappear

Three major assumptions: 1. Capital markets are perfectly competitive and no transaction cost. (This assumption makes possible the arbitraging of mispriced securities, thus forcing an equilibrium price)

2. Investors always prefer more wealth to less wealth..11 3. Various factors give rise to returns on securities and the relation between the security return and that these factor is LINEAR. The stochastic process generating asset returns can be expressed as a linear function of a set of K risk factors or indexes CAPMs STRONG Assumption are not required 1. Single Period Investment horizon. 2. No Taxes. 3. Investors can freely borrow or lend at rf. 4. Investors select portfolio based on the expected mean and variance of return. LINEAR RELATIONSHIP 1] Depicts similar to Single Index Model except that under APT there are several indexes/ factors that may have influence on particular securitys index (Factor) 2] These indexes represent systematic influence on securitys return e.g. Growth in GP - Changes in Inflation, Interest Rate Risk, Forex Rate Risk etc.

ONLY SYSTEMATIC FACTORS ARE IMPORTANT IN PRICING OF SECURITIES. APT THEORY 1. 2. determines how each asset reacts to the common factor Each asset may be affected by (though effects are not identical) Growth in GP Changes in expected inflation Changes in the market risk premium Changes in oil prices etc. Systematic risks (i.e. Non-diversifiable) factors are important in the pricing of securities.

APT and CAPM Compared 1. APT applies to well diversified portfolios and not necessarily to individual stocks 2. With APT it is possible for some individual stocks to be mispriced in equilibrium - not lie on the SML 3. APT is more general in that it gets to an expected return and beta relationship without the assumption of the market portfolio 4. APT can be extended to multifactor models CAPM Nature of relation Number of risk factors Factor risk premium Factor risk sensitivity Zero-beta return Linear 1 [E (RM) Rf] i Rf APT Linear k j bij 0

IMPLICATIONS 1. While the CAPM is still probably the best available estimate of risk for most corporate investment decision, managers must recognise that their stock prices may fluctuate more than what the standard theory suggests.

2. The market is usually smarter than the individual. Hence managers should weight the.12 evidence of the market over the evidence of experts. 3. Markets function well when participants pursue diverse decision rules and their errors are independent. Markets, however, can become very fragile when participants display herd-like behaviour, imitating one another. 4. It may be futile to identify the cause of a crash or boom because in a non-linear system small things can cause large scale changes. 5. The discounted cash flow model provides an excellent framework for valuation. Indeed, it is the best model for figuring out the expectations embedded in stock prices. Compared to the CAPM, the APT is much more general. It assumes that the return on any stock is linearly related to a set of systematic factors. Ri = ai + bi1 I1 + bi2 I2 + .. + bij Ij + ei The equilibrium relationship according to the APT is E(Ri) = l0 + i1 l1 + bi2 l2 + . bij lI

Some studies suggest that, in comparison to the CAPM, the APT explains stock returns

better; other studies hardly find any difference between the two.

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