Mandheer Arora 04 Portfolio Management

8/2/2019 Mandheer Arora 04 Portfolio Management

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Assignment on :

PORTFOLIO

MANAGEMENT

Submitted By :

Mandheer Arora

Roll No.04

PGDM-FM (2010-12)

ITM-IFM


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OBJECTIVE OF THE FUND :

The basic objective of the fund is long term capital appreciation. It also tries to focus on providing the

investors with maximum growth opportunity through equity investments in stocks of growth oriented

sectors of the economy. In the long run, it may also evaluate emerging businesses with growth potential

and domestic focus.

RATIONALE FOR SECTOR SELECTION :

Banking Sector:

Indian banks have made good progress over the last five years, as is evident from several parameters,

including annual credit growth, profitability, and trend in gross non-performing assets (NPAs). While the

annual rate of credit growth clocked 23% during the last five years, profitability (average Return on Net

Worth) was maintained at around 15% during the same period, and gross NPAs fell from 3.3% as on

March 31, 2006 to 2.3% as on March 31, 2011.

Pharma Sector:

The government's Vision 2015 statement indicates an 18 percent plus CAGR for the pharma sector,

translating to a doubling of revenues to $40 billion over the next five years. Also, pharma sector has a

huge potential for Research & Development, so the future is always bright for pharma companies.

Oil and Gas Sector:

It is very well said that Oil drives the World, as there will be hardly any industry where oil in one form

or the other is not required, be it directly or indirectly. The Oil and Gas sector in India currently

contributes about 42% of the energy requirement of the country. Domestic production of oil is around 33

million and meets only 28 per cent of our consumption. Thus, there is a huge opportunity for oil & gas

companies to grow in future.


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RATIO ANALYSIS OF STOCKS :

I selected the following 5 stocks for my portfolio :

1. Biocon Ltd.2. Cipla Ltd.3. State Bank of India (SBI)4. Bank of Baroda (BOB)5. Reliance Industries Limited (RIL)

Biocon Ltd. :Mar '11 Mar '10 Mar '09 Mar '08 Mar '07

Dividend Per Share 4.5 3.5 3 5 3

Operating Profit Per Share (Rs) 15.86 13.16 10.46 17.63 18.76

Profitability Ratios

Net Profit Margin (%) 28.82 20.2 11.31 46.7 18.3

Return On Capital Employed(%)

23.34 16.18 14.21 13.9 16.2

Liquidity & Solvency Ratios

Current Ratio 2.06 1.53 1.44 1.16 1.28Quick Ratio 2.21 1.69 1.71 1.3 1.29

Management Efficiency

Ratios

Investments Turnover Ratio 5.1 4.82 4.91 5.19 5.82

Asset Turnover Ratio 1.21 1.13 0.95 0.98 1.02

Average Raw Material Holding 48.61 54.39 64.19 71.97 57.85

P&L A/C Ratios

Material Cost Composition 52.37 53.94 48.97 49.24 53.75Expenses as Composition ofTotal Sales

52.28 44.81 52.17 62.66 58.16

Cash Flow Indicator Ratios

Dividend Payout Ratio21.57 31.17 62.78 13.45 22.16

Earnings Per Share 22.96 12.42 5.59 43.49 15.84


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Cipla Ltd. :Mar '11 Mar '10 Mar '09 Mar '08 Mar '07

Dividend Per Share 2.80 2.00 2.00 2.00 2.00

Operating Profit Per Share (Rs)15.96 17.20 16.02 10.96 10.57


Net Profit Margin (%)14.98 18.97 14.58 16.43 18.41


16.22 22.16 22.39 18.17 23.40


Current Ratio1.94 2.17 1.81 2.62 2.65

Quick Ratio1.56 1.57 1.93 1.88 1.76


Ratios

Investments Turnover Ratio3.73 4.18 3.79 3.83 3.74

Asset Turnover Ratio1.61 1.94 1.94 1.91 1.98

Average Raw Material Holding110.90 113.47 203.30 181.28 200.76

P&L A/C Ratios

Material Cost Composition48.83 47.94 48.01 51.44 49.26

Expenses as Composition ofTotal Sales

54.08 54.54 56.55 53.65 52.36



Earnings Per Share11.96 13.47 9.99 9.02 8.59


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State Bank of India :

Mar '11 Mar '10 Mar '09 Mar '08 Mar '07

Dividend Per Share30.00 30.00 29.00 21.50 14.00




Return On Net Worth (%)12.71 13.89 15.74 13.72 14.50


Ratios

Net Interest Income / Total

Funds 4.10 3.82

3.79 3.87 3.85


P&L A/C Ratios

Operating Expense / TotalIncome

31.51 27.61 22.91 24.13 28.19

Balance Sheet Ratios

Capital Adequacy Ratio11.98 13.39 14.25 13.47 12.34

Advances / Loans Funds(%) 77.19 74.22 78.34 78.31 76.16





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Bank of Baroda :Mar '11 Mar '10 Mar '09 Mar '08 Mar '07

Dividend Per Share16.50 15.00 9.00 8.00 6.00




Return On Net Worth (%)20.20 20.24 17.35 12.99 11.86


Ratios

Net Interest Income / Total

Funds

3.39 3.30 3.26 3.24 3.21


P&L A/C Ratios

Operating Expense / TotalIncome

21.98 22.53 20.88 22.70 25.68

Balance Sheet Ratios

Capital Adequacy Ratio14.52 14.36 14.05 12.91 11.80

Advances / Loans Funds(%) 78.56 77.38 81.35 75.67 74.49





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Reliance Industries Limited :Mar '11 Mar '10 Mar '09 Mar '08 Mar '07

Dividend Per Share 8.00 7.00 13.00 13.00 11.00

Operating Profit Per Share (Rs.)115.58 91.64 153.47 154.32 146.44




12.60 11.35 10.96 15.68 18.00


Current Ratio

1.22 1.11 1.08 1.01 0.77

Quick Ratio1.01 0.76 0.90 0.94 0.69

Debt Equity Ratio0.46 0.49 0.65 0.46 0.45


Ratios

Debtors Turnover Ratio17.05 23.67 26.29 26.87 28.29

Investments Turnover Ratio9.59 8.29 12.92 10.57 10.65

Average Raw Material Holding 27.16 36.56 21.00 33.46 20.91

Number of Days In WorkingCapital

44.09 28.13 26.94 33.69 14.03

P&L A/C Ratios

Material Cost Composition79.82 80.00 76.98 73.86 72.32

Imported Composition of RawMaterials Consumed

91.71 95.39 95.74 93.96 94.04

Expenses as Composition of

Total Sales

56.64 53.46 61.22 56.80 52.40





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Correlation :

In financial terms, correlation tells us how two securities move in relation to each other.

Correlation ranges from -1 to +1. Perfect positive correlation (a correlation co-efficient of +1)

implies that as one security moves, either up or down, the other security will move in thesame direction. Alternatively, perfect negative correlation means that if one security moves in

either direction the security that is perfectly negatively correlated will move in the opposite

direction. If the correlation is 0, the movements of the securities are said to have no

correlation; they are completely random.

So, the correlation for my stocks is :

Correlation

BOB Cipla Biocon RIL SBI nifty

BOB 1

Cipla 0.280704 1

Biocon 0.298149 0.277507 1

RIL 0.369184 0.316547 0.287003 1

SBI 0.691098 0.325802 0.356702 0.459123 1

nifty 0.613449 0.493002 0.445823 0.664128 0.748509 1


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Construction of a Portfolio

To achieve the above objective I used Markowitz Portfolio Theory or Modern Portfolio

Theory.

Assumptions of Markowitz Portfolio Theory

1. Asset returns are (jointly) normally distributed random variables. In fact, it isfrequently observed that returns in equity and other markets are not normally

distributed. Large swings (3 to 6 standard deviations from the mean) occur in the

market far more frequently than the normal distribution assumption would predict.

2. Correlations between assets are fixed and constant forever. Correlations dependon systemic relationships between the underlying assets, and change when these

relationships change.

3. All investors are rational and risk-averse. This is another assumption ofthe efficient market hypothesis, but we now know from behavioral economics thatmarket participants are not rational. It does not allow for "herd behavior" or investors

who will accept lower returns for higher risk.

4. All investors have access to the same information at the same time. In fact, realmarkets contain information asymmetry, insider trading, and those who are simply

better informed than others.

5. Investors have an accurate conception of possible returns, i.e., the probabilitybeliefs of investors match the true distribution of returns. A different possibility is

that investors' expectations are biased, causing market prices to be informational

inefficient.6. There are no taxes or transaction costs. Real financial products are subject both to

taxes and transaction costs (such as broker fees), and taking these into account will

alter the composition of the optimum portfolio.

7. All investors are price takers, i.e., their actions do not influence prices. In reality,sufficiently large sales or purchases of individual assets can shift market prices for

that asset and others (via cross-elasticity of demand.) An investor may not even be

able to assemble the theoretically optimal portfolio if the market moves too much

while they are buying the required securities.

8. Any investor can lend and borrow an unlimited amount at the risk free rate ofinterest. In reality, every investor has a credit limit.

Modern portfolio theory (MPT) is a theory ofinvestment which attempts to maximize

portfolio expected return for a given amount of portfolio risk, or equivalently

minimize riskfor a given level of expected return, by carefully choosing the proportions of

various assets.

MPT is a mathematical formulation of the concept ofdiversification in investing, with the

aim of selecting a collection of investment assets that has collectively lower risk than anyindividual asset. That this is possible can be seen intuitively because different types of assets
http://en.wikipedia.org/wiki/Joint_probability_distributionhttp://en.wikipedia.org/wiki/Normal_distributionhttp://en.wikipedia.org/wiki/Randomhttp://en.wikipedia.org/wiki/Risk-aversehttp://en.wikipedia.org/wiki/Efficient_market_hypothesishttp://en.wikipedia.org/wiki/Behavioral_economicshttp://en.wikipedia.org/wiki/Rational_choice_theoryhttp://en.wikipedia.org/wiki/Information_asymmetryhttp://en.wikipedia.org/wiki/Insider_tradinghttp://en.wikipedia.org/w/index.php?title=Cross-elasticity_of_demand&action=edit&redlink=1http://en.wikipedia.org/wiki/Investmenthttp://en.wikipedia.org/wiki/Rate_of_returnhttp://en.wikipedia.org/wiki/Financial_riskhttp://en.wikipedia.org/wiki/Assethttp://en.wikipedia.org/wiki/Diversification_(finance)http://en.wikipedia.org/wiki/Diversification_(finance)http://en.wikipedia.org/wiki/Assethttp://en.wikipedia.org/wiki/Financial_riskhttp://en.wikipedia.org/wiki/Rate_of_returnhttp://en.wikipedia.org/wiki/Investmenthttp://en.wikipedia.org/w/index.php?title=Cross-elasticity_of_demand&action=edit&redlink=1http://en.wikipedia.org/wiki/Insider_tradinghttp://en.wikipedia.org/wiki/Information_asymmetryhttp://en.wikipedia.org/wiki/Rational_choice_theoryhttp://en.wikipedia.org/wiki/Behavioral_economicshttp://en.wikipedia.org/wiki/Efficient_market_hypothesishttp://en.wikipedia.org/wiki/Risk-aversehttp://en.wikipedia.org/wiki/Randomhttp://en.wikipedia.org/wiki/Normal_distributionhttp://en.wikipedia.org/wiki/Joint_probability_distribution


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often change in value in opposite ways.[2]For example, to the extent prices in the stock

market move differently from prices in the bond market, a collection of both types of assets

can in theory face lower overall risk than either individually. But diversification lowers risk

even if assets' returns are not negatively correlatedindeed, even if they are positively

correlated.

More technically, MPT models an asset's return as a normally distributed function (or more

generally as an elliptically distributed random variable), defines riskas the standard

deviationof return, and models a portfolio as a weighted combination of assets, so that the

return of a portfolio is the weighted combination of the assets' returns. By combining

different assets whose returns are not perfectly positively correlated, MPT seeks to reduce the

total variance of the portfolio return. MPT also assumes that investors are rational and

markets are efficient.

The fundamental concept behind MPT is that the assets in an investment portfolio should not

be selected individually, each on their own merits. Rather, it is important to consider how

each asset changes in price relative to how every other asset in the portfolio changes in price.

Investing is a tradeoff between riskand expected return. In general, assets with higher

expected returns are riskier. For a given amount of risk, MPT describes how to select a

portfolio with the highest possible expected return. Or, for a given expected return, MPT

explains how to select a portfolio with the lowest possible risk.

Risk and Expected Return under the Theory

MPT assumes that investors are risk-averse, meaning that given two portfolios that offer the

same expected return, investors will prefer the less risky one. Thus, an investor will take on

increased risk only if compensated by higher expected returns. Conversely, an investor who

wants higher expected returns must accept more risk. The exact trade-off will be the same for

all investors, but different investors will evaluate the trade-off differently based on individual

risk aversion characteristics. The implication is that a rational investor will not invest in a

portfolio if a second portfolio exists with a more favorable risk-expected return profilei.e.,

if for that level of risk an alternative portfolio exists which has better expected returns.

Under the model:

Portfolio return is the proportion-weighted combination of the constituent assets' returns. Portfolio volatility is a function of the correlations ij of the component assets, for all

asset pairs (i, j).

The formulae which have been used to get optimum portfolio and desired weights are as

follows:

In general:
http://en.wikipedia.org/wiki/Modern_portfolio_theory#cite_note-1http://en.wikipedia.org/wiki/Modern_portfolio_theory#cite_note-1http://en.wikipedia.org/wiki/Modern_portfolio_theory#cite_note-1http://en.wikipedia.org/wiki/Stock_markethttp://en.wikipedia.org/wiki/Stock_markethttp://en.wikipedia.org/wiki/Bond_markethttp://en.wikipedia.org/wiki/Normal_distributionhttp://en.wikipedia.org/wiki/Elliptical_distributionhttp://en.wikipedia.org/wiki/Random_variablehttp://en.wikipedia.org/wiki/Riskhttp://en.wikipedia.org/wiki/Standard_deviationhttp://en.wikipedia.org/wiki/Standard_deviationhttp://en.wikipedia.org/wiki/Correlatedhttp://en.wikipedia.org/wiki/Variancehttp://en.wikipedia.org/wiki/Homo_economicushttp://en.wikipedia.org/wiki/Efficient_market_hypothesishttp://en.wikipedia.org/wiki/Assethttp://en.wikipedia.org/wiki/Portfolio_(finance)http://en.wikipedia.org/wiki/Riskhttp://en.wikipedia.org/wiki/Return_(finance)http://en.wikipedia.org/wiki/Rationalityhttp://en.wikipedia.org/wiki/Risk-return_spectrumhttp://en.wikipedia.org/wiki/Linear_combinationhttp://en.wikipedia.org/wiki/Correlationhttp://en.wikipedia.org/wiki/Correlationhttp://en.wikipedia.org/wiki/Linear_combinationhttp://en.wikipedia.org/wiki/Risk-return_spectrumhttp://en.wikipedia.org/wiki/Rationalityhttp://en.wikipedia.org/wiki/Return_(finance)http://en.wikipedia.org/wiki/Riskhttp://en.wikipedia.org/wiki/Portfolio_(finance)http://en.wikipedia.org/wiki/Assethttp://en.wikipedia.org/wiki/Efficient_market_hypothesishttp://en.wikipedia.org/wiki/Homo_economicushttp://en.wikipedia.org/wiki/Variancehttp://en.wikipedia.org/wiki/Correlatedhttp://en.wikipedia.org/wiki/Standard_deviationhttp://en.wikipedia.org/wiki/Standard_deviationhttp://en.wikipedia.org/wiki/Riskhttp://en.wikipedia.org/wiki/Random_variablehttp://en.wikipedia.org/wiki/Elliptical_distributionhttp://en.wikipedia.org/wiki/Normal_distributionhttp://en.wikipedia.org/wiki/Bond_markethttp://en.wikipedia.org/wiki/Stock_markethttp://en.wikipedia.org/wiki/Stock_markethttp://en.wikipedia.org/wiki/Modern_portfolio_theory#cite_note-1


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Expected return:

where Rp is the return on the portfolio, Ri is the return on asset i and wi is the

weighting of component asset i (that is, the share of asset i in the portfolio).

Portfolio return variance:

where ij is the correlation coefficient between the returns on assets i and j.

Alternatively the expression can be written as:

,

where ij = 1 for i=j.

Portfolio return volatility (standard deviation):

For a two asset portfolio:

Portfolio return:

Portfolio variance:For a three asset portfolio:

Portfolio return: Portfoliovariance:
http://en.wikipedia.org/wiki/Pearson_product-moment_correlation_coefficienthttp://en.wikipedia.org/wiki/Pearson_product-moment_correlation_coefficient


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If we represent our objective through a diagram we make this diagram


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Result:

Company

Weight

(%)

Amt.

to

invest

Priceas on

1st

Nov.

2011

Priceas on

13th

Jan

2012

No. of

shares

Value on

1st

Nov2011

Value on

12th

Jan 2012

BOB 20% 10 lacs 798 727 25 2,00,000 182205.51

Cipla 43% 10 lacs 289 338.5 1487 4,30,000 503650.51

Biocon 24% 10 lacs 348 267.1 689 2,40,000 184206.89

RIL 7% 10 lacs 860 728 81 70,000 59255.81

SBI 6% 10 lacs 1901 1776 31 60,000 56054.70

PortfolioValue 10,00,000 9,85,373.45

Sensex 17,480.83 16154.62

Portfolios

Return -1%

Sensexs

Return -8%

Net loss in the portfolio is of Rs. 14626.55 which is approximately 1% where as the Sensex

has suffered a loss of approximately 8% i.e. fall from 17480.83 to 16154.62.

Hence, it can be concluded that the portfolio has performed better than the Sensex.

Mandheer Arora 04 Portfolio Management

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