Capital Asset Prices: a Theory of Market Equilibrium Under Conditions of Risk

Markowitz (1952, 1956) pioneered the development of a quantitative method that takes the diversification benefits of portfolio allocation into account. Modern portfolio theory is the result of his work on portfolio optimization. Ideally, in a mean-variance optimization model, the complete investment opportunity set, i.e. all assets, should be considered simultaneously. However, in practice, most investors distinguish between different asset classes within their portfolio-allocation frameworks.

With Reference to this statement, describe, discuss and illustrate the principles of portfolio theory. Your essay should include coverage of the Markowitz Efficient Frontier and the Capital Market Line.

Week 1 – Introduction – Financial Accounting (Review) Week 2 – Financial Markets and Net Present Value Week 3 – Present Value Concepts Week 4 – Bond Valuation and Term Structure Theory Week 5 – Valuation of Stocks Week 6 – Risk and Return – Problem Set #1 Due Week 7* – Midterm (Tuesday*) Week 8 - Portfolio Theory Week 9 – Capital Asset Pricing Model Week 10 – Arbitrage Pricing Theory Week 11 – Operation and Efficiency of Capital Markets Week 12 – Course Review – Problem Set #2 Due

Harry Markowitz 1991, developed a theory of “Portfolio choice”, that allows the investors to examine the risk as per the expected returns. In modern World, this theory is known as Modern portfolio theory (MPT). It attempts to attain the best portfolio expected return for a predefined portfolio risk, or to minimise the risk for the predefined expected returns, by a careful choice of assets. Though it’s a widely used theory, still has been challenged widely. The critics question the feasibility of theory as a strategy for

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This document is authorized for use only by Yen Ting Chen in FInancial Markets and Institutions taught by Nawal Ahmed Boston University from September 2014 to December 2014.

Diversity investment among stock markets, bounds and nationally and internationally is the best me method of maintaining the risk of investment and expanding its growth. The fourth importance is the cost of single investment; the less money an investor pay; the more financial resources will have to take advantage on future investment opportunities that expand the return. Becker’s final advice of investment success was for investors to slick with their plan. “Lethargy bordering on sloth remains the cornerstone of our investment style”, Warren Buffett. Many investors get influenced by what goes around them and the media to end their investment prematurely or get involved in risky commitment outside of their goals.

The learning objectives for students in this course are: (l) improve your understanding of financial securities and markets, (2) develop the ability to analyze investment companies, common stocks, and bonds for investment decisions, (3) understand how options are

This essay will highlight the use of Capital asset pricing model ( CAPM ) to be considered as a pricing theory model for assets . CAPM model helps investors to analyse the risk and what expectation to keep from an investment (Banz , 1981) . There are two types of risk

In “Human Capital, Asset Allocation, and Life Insurance” the author is trying to prove that even though asset allocation and life insurance decisions have been considered separately in the past, they need to be looked at together because of the affect human capital has on optimal asset allocation and life insurance demand. “We argue that these two decisions must be determined jointly because they serve as risk substitutes when viewed from the perspective of an individual investor’s portfolio.” These decisions are related to human capital because it is single handedly the largest asset an investor owns.

The objective of studying this case is to understand the concepts of diversification and the efficient frontier by analyzing Harvard Management Company’s application of portfolio theory for managing the endowment of Harvard University. Please read the case carefully and be prepared to discuss the following questions in class on Monday, October 11.

The analysis of this paper will derive the validity of the Fama and French (FF) model and the efficiency of the Capital Asset Pricing Model (CAPM). The comparison of the Fama and French Model and CAPM (Sharpe, 1964 & Lintner, 1965) uses real time data of stock market to practise its efficacy. The implication of the function in realistic conditions would justify the utility of the CAPM theory. The theory suggests that the expected return demanded by investors on a risky asset depends on the risk-free rate of interest, the expected return on the market portfolio, the variance of the return on the market portfolio, and

During this time period, prices for the stocks increase substantially, accordingly reducing risk premium demanded by the traders. Also, shares should amount from 30 to 55 percent of the entire investment portfolio to optimize the investor’s expected profitability. Proximity of the evaluated results to the reality reveals excellence of the myopic loss aversion model (Siegel and Thaler, 1997).

Ever since Ross (1976) proposed the Arbitrage Pricing Theory (APT) as an alternative to the capital pricing model, many economists and investors have applied APT across different markets. Whereas the traditional capital pricing model explained asset returns with one beta, sensitivity to the market return, APT decomposes the return with a multiple number of factors. This idea became particularly popular for investors who aim to gain systematic risk other than market risk. However, the model specification aspect has been challenging to many practitioners as the theory does not require any specific sets of variables to be used (Azeez 2006).

If the assets exist to help meet a liability, the liability should be considered in the process; 3. Basing one’s decision solely on an asset allocation’s mean and variance is insufficient to base one’s decisions, in a world in which asset class returns are not normally distributed; and, 4. Most investors have multi-period objectives and the mean-variance framework is a single period model. These potential shortcomings are the likely reasons that practitioners have not fully embraced meanvariance optimization. For a number of practitioners, mean-variance optimization creates the illusion of quantitative sophistication; yet, in practice, asset allocations are developed using judgmental, ad hoc approaches. Recent advances significantly improve the quality of typical mean-variance optimizationbased asset allocations that should allow a far wider audience to realize the benefits of the Markowitz paradigm, or at least the intent of the paradigm. In this article, we focus on the first issue: the lack of diversification that can result from traditional meanvariance optimization. We begin with two examples in which traditional mean-variance optimization