Machine Learning & CAPM

Introduction

Portfolio Management relates to selection of securities, continuous buying and selling of securities in the portfolio , to optimize returns with the view to suit the objectives of an investor . Portfolio Management Services (PMS) is one of the merchant banking activities recognized by SEBI.

To measure the relation of risk and return , CAPM method is used . The Capital Asset Pricing Model measures a portfolio containing a risk free return security & a risky investment. Return from risky investment can be found using risk free investment by rearranging the return from risky investment as (Minimum compensation + Risk premium)

Research Objectives

Portfolio Management relates to management of portfolio of securities , whether in the form of individual or group securities .Whereas CAPM forms a part of portfolio management.

Our purpose of this academic research is to identify whether the research learning can qualify for studentship in the annual NINE DTP studentship competition.

Further the learning would enhance the knowledge of finance , relating to measuring the risk & return diligently to make investments judiciously.

Portfolio Management not only ensures that investment is safe but also ensures consistency of returns. Our aim is to ensure that safety and security along with the consistency of returns from the securities. Hence , to learn from it , the effective use of permutation and combination of how much of which securities to be held for how long?!The objectives of portfolio management would include:-

1.)   Ensuring Safety & Security of the principal amount invested.

2.)   Earning stable income to facilitate planning.

3.)   Attaining capital growth on investments by investments by investing in growth securities to earn more than average.

4.)   Ensuring investment in liquid securities

5.)   Diversify the investment in various securities across various sectors to reduce risk.

6.)   Investing judiciously , so that the investor is given income/ capital gains to suit his tax status.

Research Aim

As identified by A.N Sridhar , 2016 edition , Portfolio Management involves selection of securities , continuous buying & selling of securities in the portfolio , to optimize returns with the view to suit the objectives of an investor. Hence the proposed research aims to:-

“learn about the management of risk & returns of securities through Portfolio Management & machine learning CAPM.”

Research Questions

In order to attain the objectives which have been discussed above , the following research question (Primary) would be answered .

? What are the general factors affecting investment decisions in Portfolio Management?

? What are the phases involved in portfolio Management?

? What are the strategies involved in portfolio management?

? How tax considerations play crucial role in Portfolio Management?

? What are the general criterias for selection of securities?

? How risk & return affect the government policy?

Factors that affect investment decisions in Portfolio Management                

There can be many objectives of making . The manager of a provident fund portfolio has to look for security (low risk) and may be satisfied with none to higher return. An aggressive investment company may however be willing to take higher risk in order to have high capital appreciation.

Selection of investment shall be based upon :-

·        What type of securities to buy or invest in? There is a wide variety of investment opportunities available i.e. debentures , convertible bonds , preference shares , equity shares , government securities and bond , income units & capital units etc.

·        What should be the proportion of investment of fixed interest /dividend securities and variable interest / dividend bearing securities ?

·        In case of investments are to be made in the shares or debentures of the companies , which particular industries show potential growth ?

·        Once industry with high growth potential have been identified , the next step is to select the particular industries to show potential growth ?

·        Once industries with high growth potential has been identified , the next step is to select particular companies , in whose securities investments are to be made .

At what price the share acquired for the portfolio depends entirely on the timing decision . It is obvious if person wishes to make gains , he should “ buy cheap and sell dear” i.e buy when the shares are selling at low price and sell at a low price and sell when they are at high price.

Phases involved in Portfolio Management

Portfolio management process involves the following five phases.

1.)   Security Analysis-

This involves both Fundamental & Technical analysis

To construct a well diversified portfolio and reduce/ eliminate/ mitigate Unsystematic risks , an investor should select securities across diverse industry sectors which do not have a positive co-relation among themselves.

2.)   Portfolio Analysis-

The securities identified for investment should be combined to form a suitable portfolio.

Each portfolio has its own specific risk & return characteristics . The Risk & Return of each portfolio can be computed mathematically based on risk-return profiles for the constituent securities and the pair wise co-relation among them .

3.)   Portfolio Selection –

A rational investor seeks to to identify the efficient portfolios out of the whole set of feasible portfolios mentioned above , and decide on the Optimal Portfolio suiting his risk appetite .

An efficient portfolio has – (i) the highest return among all feasible portfolios having identical risk and, (ii) the lowest risk among all feasible portfolios having identical return.

Harry Markovitz`s portfolio theory outlines the methodology for locating the optimal portfolio for the investor .

4.)   Portfolio Revision-

 Portfolio & Monitoring and revision is intended to ensure that a portfolio does not lose its optimality

The need for revision arises due to , market related changes e.g. change in risk return patterns , economy changes , emergence of new securities or investor related changes , eg- avaibility of additional funds for investment , change of risk appetite , need of cash for other alternative use etc.

Portfolio revision must be carried out with care , scientifically &/ objectively and is as important as Portfolio Analysis & Selection.

5.)   Portfolio Evaluation-

This involves the risk return assessment of performance of the portfolio ver a period by cumulative measurement of actual return realized and the risk borne by portfolio over the period of investment

This provides a mechanism for identifying weaknesses in the investment process and for overcoming them.

Portfolio Management is an ongoing process , achieved through continual refinement pf skills & market watch.

Strategies involved in portfolio Management

Active strategy involves:-

·        Out-performing the market with superior returns

·        Selecting undervalued assets

·        Changing the asset mix frequently

·        Aggressive purchase & sale of securities

·        Speculation & short term trading

Passive strategy involves:-

·        Does not aim to outperform the market

·        Selecting large number of securities to reduce risk

·        Investing for a long term

·        Resorting to portfolio revision less frequently

·        This is basically buy & hold strategy.