The portfolio theory was originated by Markowitz in the early 1950's.

and further developed in

the 1960's by Sharpe.
Based on the principle "Don’t put all your eggs in one basket." the investors knew intuitively that
it was smart to diversify their portfolio. Markowitz was the first to quantify risk and
demonstrate quantitatively why and how portfolio diversification works to reduce risk and
optimize return for investors.

Markowitz has also introduced the concept of an "efficient portfolio". An efficient portfolio is
one which has the smallest attainable portfolio risk for a given level of expected return (or the
largest expected return for a given level of risk).
Portfolio Management (PM) is the management of selected groupings of investments using
integrated strategic planning, integrated architectures, measures of performance, risk
management techniques, transition plans, and portfolio investment strategies. Usually, PfM is
focused on IT-related investments in both the commercial sector and in the Federal Government,
but in an ideal world the portfolio should be inclusive of all investments: people, processes and
technology. In the simplest and most practical terms, portfolio management focuses on five key
objectives:

1. Defining goals and objectives — clearly articulate what the portfolio is expected to
achieve. Questions to consider: What is the mission of the organization and how does IT
support and achieve that mission?
2. Understanding, accepting, and making tradeoffs — determine what to invest in and how
much to invest. Questions to consider: Which initiatives contribute the most to the
mission?
3. Identifying, eliminating, minimizing, and diversifying risk — select a mix of investments
that will avoid undue risk, will not exceed acceptable risk tolerance levels, and will
spread risks across projects and initiatives to minimize adverse impacts. Questions to
consider: When and how do you terminate a legacy system? At what point do you cancel
a project that is still behind schedule and over budget?
4. Monitoring portfolio performance — understanding the progress your portfolio is making
towards achieving of the goals and objectives of your organization. Question to consider:
In whole, is the portfolio’s progress meeting the goals of the mission?
5. Achieving a desired objective — have the confidence that the desired outcome will likely
be achieved given the aggregate of investments that are made. Question to consider:
Which combination of investments best supports the desired outcome?

Portfolio management is not about completing a series of project-specific calculations and

analyses, such as return on investment, cost-benefit, net present value, payback period, rate of
return (internal or otherwise), and then adjusting them all to account for risk. Nor is it about
earned value or activity-based costing. These practices are important; however, they are more
applicable and relevant for program or project specific initiatives. Portfolio management can
help an organization gain control over IT investments to ensure meaningful value is delivered to
the business. An IT portfolio should be managed similar to a financial portfolio; riskier strategic
investments (high growth stocks) are balanced with more conservative investments (cash funds),
and the mix is constantly monitored to assess which projects are on track, which need assistance,
and which projects should end. In the IT environment, this may mean balancing new start-up
projects with legacy upgrades. The key is in the execution.
A strong portfolio management program should:

• Maximize value of IT investments while minimizing risk

• Improve communication and alignment between IT and business leaders
• Encourage business leaders to think as a “team”, versus about the individual department
or mission area (“me”), and be accountable for projects
• Enable planners to use assets more efficiently
• Reduce the number of redundant projects and make it easier to eliminate non-value add
projects
• Support an enterprise approach to IT investments and management

In the last five to seven years, the concept of portfolio management has become mainstream,
creating greater degrees of specificity in the marketplace. Evolving organizational PfM
requirements mandate sound project justification, requirements for auditable cost compliance,
and organizational alignment of business and IT strategic plans that have created sub-market
niches in the portfolio management discipline. PfM is typically approached from an IT
perspective in both the commercial sector and in the Federal Government because CIOs are
facing pressure to provide sound project justification and auditable cost compliance.
When individual projects are collectively viewed as a portfolio of investments, discussions are
no longer about cost and schedule but also about anticipated risks and returns in relation to other
projects. Portfolio Management builds a single program level view by combining current metrics
for multiple projects into a single portfolio. This affords the Program Managers a well-organized
approach to:

• allocate resources effectively

• create the ability to efficiently monitor the program and all of its individual projects
• recognize redundancies
• identify gaps and/or improvement opportunities
• Manage and mitigate program risk or exposure

The person or persons responsible for investing a mutual, exchange-traded or closed-end fund's
assets, implementing its investment strategy and managing the day-to-day portfolio trading.

Portfolio Manager
A portfolio manager is a person who makes investment decisions using money other people
have placed under his or her control. In other words, it is a financial career involved in
investment management. They work with a team of analysts and researchers, and are ultimately
responsible for establishing an investment strategy, selecting appropriate investments and
allocating each investment properly for a fund- or asset-management vehicle.
Portfolio managers are presented with investment ideas from internal buy-side analysts and sell-
side analysts from investment banks. It is their job to sift through the relevant information and
use their judgment to buy and sell securities. Throughout each day, they read reports, talk to
company managers and monitor industry and economic trends looking for the right company and
time to invest the portfolio's capital.
Portfolio managers make decisions about investment mix and policy, matching investments to
objectives, asset allocation for individuals and institutions, and balancing risk against
performance.
Portfolio management is about strengths, weaknesses, opportunities and threats in the choice of
debt vs. equity, domestic vs. international, growth vs. safety, and other tradeoffs encountered in
the attempt to maximize return at a given appetite for risk.
The portfolio manager is one of the most important factors to consider when looking at fund
investing. Portfolio management can be active or passive (index tracking). Historical
performance records indicate that only a minority of active fund managers beat the market
indexes.
If you own more than one security, you have an investment portfolio. You build the portfolio by
buying additional stocks, bonds, mutual funds, or other investments. Your goal is to increase the
portfolio's value by selecting investments that you believe will go up in price.
Modern Portfolio theory
According to modern portfolio theory, you can reduce your investment risk by creating a
diversified portfolio that includes enough different types, or classes, of securities so that at least
some of them may produce strong returns in any economic climate

· Involves decisions that must be made by every investor whether an active or passive investment
approach is followed
· Relationships between various investment alternatives must be considered if an investor is to
hold an optimal portfolio

Practical Approach

Portfolio Management is used to select a portfolio of new product development projects to

achieve the following goals:

• Maximize the profitability or value of the portfolio

• Provide balance
• Support the strategy of the enterprise

Portfolio Management is the responsibility of the senior management team of an organization or

business unit. This team, which might be called the Product Committee, meets regularly to
manage the product pipeline and make decisions about the product portfolio. Often, this is the
same group that conducts the stage-gate reviews in the organization.
A logical starting point is to create a product strategy - markets, customers, products, strategy
approach, competitive emphasis, etc. The second step is to understand the budget or resources
available to balance the portfolio against. Third, each project must be assessed for profitability
(rewards), investment requirements (resources), risks, and other appropriate factors.
What Does Portfolio Income Mean?

Income from investments, including dividends, interest, royalties and capital gains.
There are three main categories of income: active income, passive income and portfolio income.
These categories of income are important because losses in passive income generally cannot be
offset against active or portfolio income.
Portfolio Management Process

According to Maginn and Tuttle

“Portfolio management is a process, integrating a set of activities in a logical and orderly
manner. It is a continuous, systematic, dynamic and flexible concept, and it extends to all
portfolio investments including real estate, gold and other real assets.”
Ø Definite structure everyone can follow
Ø Integrates a set of activities in a logical and orderly manner
Ø Continuous and systematic
Ø Encompasses all portfolio investments
Ø With a structured process, anyone can execute decisions for investor
Ø Objectives, constraints, and preferences are identified. Leads to explicit investment policies
Ø Strategies developed and implemented
Ø Market conditions, asset mix, and investor circumstances are monitored
Ø Portfolio adjustments are made as necessary
Ø Strategies developed and implemented
Ø Market conditions, asset mix, and investor circumstances are monitored
Ø Portfolio adjustments are made as necessary

Individual vs. Institutional Investors

There is a wonderful series of studies on the results of stock trading by individuals by Professors
Brad Barber and Terrance Odean. One of their studies found that the stocks individuals buy
underperform after they buy them and outperform after they sell them. This is actually a
commonsense outcome. The reason is relatively simple. Let me explain. For every buyer there
must be a seller. Since the vast majority (about 80%) of the trading is done by institutional
investors (who almost certainly know more than the individual investor) that it is likely that
when an individual buys a stocks (because he thinks it will outperform the market) the likely
seller is an institution (who thinks it will underperform or they would continue to hold it). And
the institutional investor is more likely to be right.
And the same is true when the individual sells (because he thinks the stock will underperform)
and the buyer is likely to be an institutional investor (who thinks it will outperform). Again, only
one can be right and it is likely to be the institution. A study by Russ Wermers found that the
stocks institutional investors (mutual funds) buy actually do outperform by about 70 basis points.
Thus they are exploiting the individual investors lack of knowledge.
Taking this one step further, when an institutional investor trades the likely counterparty is
another institution in most cases (about 80%). And only one of them can be right. It turns out that
the evidence demonstrates that there are just not enough victims to exploits. The study by
Wermers found that while the stocks the mutual funds bought did beat the market by about 70bp
the funds underperformed proper benchmarks by about 1.6% per annum because they incurred
an average of 2.3% in total costs (not just the fund’s operating expense ratio but all trading costs
and the cost of sitting with cash). In other words, there were just not enough victims (individual
investors like you) to exploit to overcome the burden of expenses.
Comparing individual investors to institutional investors is like comparing apples to oranges.
While any individual polled on the street may claim to act independently and make current
investment decisions based solely on a long-term plan, it is rare to see this in practice. Individual
investors differ from institutions in their investment horizons, how they define risk and how they
behave in response to changes in the economy and investment markets. This does not mean that
individual investors are any less successful than institutional ones at investing - just that their
style of investing presents unique challenges.

Life Cycle Approach

Risk/return position at various life cycle stages

• A: Accumulation phase - early career

• B: Consolidation phase - mid-to late career
• C: Spending phase - spending and gifting

Constraints and preferences

To complete the investment policy statement, these items are described for a particular investor
as circumstances warrant.
Time horizon
Investors need to think about the time period involve in their investments plans. Objectives may
required a policy statement that speaks to specific planning horizon. In the case of an institution
investor the time horizon can be quite long. In case of individual this could be the investor
expected lifetime.
Liquidity Needs
Liquidity is the ease with which an asset can be sold without a sharp change in price as the result
of selling. Cash equivalents e.g. money have high liquidity and easily sold at close to face value.
Many stocks have great liquidity but the price at which they are sold will reflect their current
market valuation.
Tax Consideration
Individual investors unlike some institutional investor must consider the impact of taxes on their
investment programs. The treatment of ordinary income as oppose to capita;l gain is an
important issue because their is a differential tax rate. Tax is not payable until the gain is
realized.

Forming Expectations

It involves two steps

Macroexpectational factors
These factors influence the market for bonds, stocks and other assets on both a domestic and an
international basis. These are expectations about the capital market.
Microexpectatioonal influences
These factors involve the cause agents that underline the desire return and risk and influence the
selection of particular asset for a particular portfolio.

IT and Portfolio Management

The IT function today is facing significant challenges in its drive to deliver visible and
demonstrable value to the enterprise. Many top performing companies question if they are
getting enough value from their information technology investments. IT organizations must
deliver on these priorities while addressing requirements from governing boards related to
corporate accountability and regulatory compliance mandates like Sarbanes-Oxley. In this
environment, investments in IT are scrutinized more than ever.
IT investments can represent more than 50 percent of an organization’s capital investment.
IT Governance and Portfolio Management solutions provides visibility and control over the
demands being made of IT, your portfolio of IT projects, and the roll-out of application changes
at the enterprise level. It offers transparency into IT proposals, priorities, projects, and
investments to optimize the business value delivered by IT, lowering the cost of compliance with
regulations such as Sarbanes-Oxley by automating processes, required controls, and reporting. In
addition, process control frameworks such as Six-Sigma, PRINCE2™, CMMI, and COBIT and
best-practice frameworks like ITIL (IT Infrastructure Library).
Ø Expertise on industry-leading IT Governance and Portfolio Management tools
Ø Hands-on expertise on successfully implemented models at LMKR and other large-scale
organizations
Ø Certified personnel for IT governance and portfolio management areas

Financial Markets and Portfolio Management (FMPM)

The Journal Financial Markets and Portfolio Management (FMPM) publishes original
research and survey articles in all areas of finance, especially in - but not limited to - financial
markets, portfolio theory and wealth management, asset pricing, risk management, and
regulation. Its principal objective is to serve as a bridge between innovative research and
practical application. The readers of Financial Markets and Portfolio Management are researcher,
economists, asset managers, financial analysts, and other professionals in finance and related
areas.

Active Investing

An investment strategy involving ongoing buying and selling actions by the investor. Active
investors purchase investments and continuously monitor their activity in order to exploit
profitable conditions.
Active investing is highly involved. Unlike passive investors, who invest in a stock when they
believe in its potential for long-term appreciation, active investors will typically look at the price
movements of their stocks many times a day. Typically, active investors are seeking short-term
profits.

Risk Aversion

Given a choice between two assets with equal rates of return, most investors will select the asset
with the lower level of risk.
Evidence hat Investors are Risk Averse
• Many investors purchase insurance for: Life, Automobile, Health, and Disability Income. The
purchaser trades known costs for unknown risk of loss

Markowitz Portfolio Theory

• Quantifies risk
• Derives the expected rate of return for a portfolio of assets and an expected risk measure
• Shows that the variance of the rate of return is a meaningful measure of portfolio risk
• Derives the formula for computing the variance of a portfolio, showing how to effectively
diversify a portfolio
Assumptions of Markowitz Portfolio Theory
1. Investors consider each investment alternative as being presented by a probability distribution
of expected returns over some holding period.
2. Investors minimize one-period expected utility, and their utility curves demonstrate
diminishing marginal utility of wealth
3. Investors estimate the risk of the portfolio on the basis of the variability of expected returns.
4. Investors base decisions solely on expected return and risk, so their utility curves are a
function of expected return and the expected variance (or standard deviation) of returns only.
5. For a given risk level, investors prefer higher returns to lower returns. Similarly, for a given
level of expected returns, investors prefer less risk to more risk.
Markowitz Portfolio Theory
Using these five assumptions, a single asset or portfolio of assets is considered to be efficient if
no other asset or portfolio of assets offers higher expected return with the same (or lower) risk, or
lower risk with the same (or higher) expected return.
Individual Investor versus Institutional Investors
Significant differences exists between investors as to objectives, constrains and preferences.

Modern portfolio theory

Modern portfolio theory (MPT) is a theory of investment which tries to maximize return and
minimize risk by carefully choosing different assets. Although MPT is widely used in practice in
the financial industry and several of its creators won a Nobel prize for the theory, in recent years
the basic assumptions of MPT have been widely challenged by fields such as behavioral
economics, and many companies using variants of MPT have gone bankrupt in various financial
crises.

Investment Policy Statement

The Investment Policy Statement is the linkage between you, the investment manager, and your
portfolio.
The most important duty of a fiduciary or trustee is the creation and maintenance of an
Investment Policy Statement. This is an important written document that should clearly define
your objectives and constraints over a relevant, explicitly stated, time horizon.
The IPS is the foundation of managing your investments, and serves as a structured decision-
making process for us to make most all of your investment decisions. This helps to balance
return seeking and risk taking; increasing the probability of success in achieving your long-term
investment goals.
A properly constructed Investment Policy Statement provides support for the investment
manager to follow a well-conceived, long-term investment discipline, rather than one that is
based on ad hoc revisions spawned by overconfidence or panic in reaction to short-term market
fluctuations.
The absence of written policy reduces decision making to an individual event basis, and often
leads to chasing short-term opportunities that may detract from reaching long-term goals. The
presence of policy encourages all parties to maintain their focus on the long-term nature of the
investment process, especially during turbulent, or exuberant, times.
The IPS provides a long-term plan and a basis for making disciplined investment decisions over
time. Written investment policy helps to clearly and concisely identify your pertinent objectives
and constraints. Once this is done, we can establish investment guidelines that we feel are
appropriate, given the universe of strategies and realities of the marketplace.
Clients are surprised when they realize they are responsible for establishing their own investment
policy. Once established, it is then the advisor's role to follow that policy. Once policy is
established, we would not expect to change it until there is a material change in your personal or
financial circumstances. Investment policy normally doesn't change in response to market
moves, and should be long-term to prevent arbitrary or impulsive revisions.
The Investment Policy Statement also provides an effective channel of communication between
client and advisor. This will help clarify issues of importance and concerns to both parties.
Conflicts of interest and general misunderstandings are minimized since the IPS is in writing and
both the client and investment managers have agreed to adhere to it.
Having a professionally prepared IPS also helps provide a structured means of presenting
investment performance, and provides continuity from current manager(s) to future ones, if
needed.
Rate of return objectives are mostly tempered by your risk tolerance, but other factors also apply.
These are constraints, such as: time horizons, income/liquidity needs, tax considerations, legal
and regulatory requirements, and unique preferences or circumstances.
These objectives and constraints, considered in the light of investment market expectations
(expected returns, return volatilities, and return correlations), will dictate the appropriate
investment strategies to be followed, including asset allocation and selection, the investment
style to be pursued, and the appropriate way to monitor and evaluate performance.
Signing and returning the IPS will let us know that you concur with its contents. This Investment
Policy Statement is not a contract of any kind, and it is not required to make trades in your
account. It is only meant to be a summary of our agreed upon investment management
techniques. You can suggest any changes you want to it before formally agreeing to it with your
signature.

More IPS Basics

An Investment Policy Statement has five components:
1) Account information and summary of investor circumstances.
2) Investment objectives, time horizon, and risk attitudes.
3) Permissible asset classes, constraints, and restrictions.
4) Asset allocation ranges and targets.
5) Selection, monitoring, reporting, and control procedures.
To serve as the guide in making investment decisions, your Investment Policy Statement
will summarize:
º Your financial goals and objectives; and time frames for reaching them.
º Your personal preferences and constraints; and any tax, legal, or regulatory issues.
º Your rate of return goals.
º Your willingness and ability to assume investment risk.
º Your ongoing income distribution needs from the investment portfolio, and other liquidity
concerns stemming from withdrawals from the portfolio.
º Personalized guidelines for the allocation of your assets. This process will determine which
overall asset classes will be used, and how your investments should be divided between these
asset classes.
Your personal (non-tax qualified) assets may be allocated separately from your qualified
retirement assets, or they may be combined.
º The time frame for achieving your proposed asset allocation, and when rebalancing is required.
º Whether techniques such as Dollar Cost Averaging will be used in achieving allocation ranges
over time.
º Whether or not portfolio optimization techniques will be used to enhance investment
performance by helping to control risk and return.
º Benchmarks to be used in evaluating investment performance, and how they will be applied.
º The frequency and types of portfolio reporting and evaluation.
º Security selection guidelines used to control how much of a certain type, and which types, of
investments are permissible.
The Benefits of Using an IPS:
Using a properly composed Investment Policy Statement should bring the following benefits:
º An IPS compels the investor and the investor's advisors to be more disciplined and systematic
in their decision making, which is in itself, should improve the odds of meeting the investment
goals.
º Objectives and expectations are clarified for all concerned parties.
º Misunderstandings are more likely to be avoided.
º Approved procedures are specified in advance so everyone concerned will know what to
expect. Decisions can be made as to how things will be done under a variety of circumstances in
a deliberate fashion, rather than in "heat of the battle." Planning ahead makes it easier for all
when the environment gets stormy.
º The IPS establishes a record of decisions and an objective means to test whether those serving
the investor are complying with the investor's requirements.
º The Investment Policy Statement provides a ready means to communicate to advisors,
beneficiaries, and current and future fiduciaries about how the investor proposes to go about
acting upon their duties.
Who Needs an IPS?
Every investor needs an Investment Policy Statement. In certain circumstances, law mandates
having it in writing.
When it is mandated by law? In general, having an Investment Policy Statement is required any
time a person or group of people are making investment decisions for the benefit of others,
whether or not the decision-makers also may have a direct personal interest in the investments.
For example: When the investments are subject to ERISA, Taft-Hartley Plans, held in a
trust/endowment/foundation, when the investments are in an estate and the executor is making
investment decisions, or when there is more than one investment manager acting in a fiduciary
capacity under the Uniform Prudent Investor Act.

Create and write down your investment policy statement

The answer of course is to write it down and review it on a regular basis. Annually, quarterly,
daily – whatever works for you. If you don’t know enough about investing to create an
investment policy then fill in the sections you do know and keep learning!
Keep in mind that it’s ok to change your policy once in a while – the one you start out with after
graduating college might not be sufficient 20 years later.

How to create an investment policy statement

The policy statement should have the following information:

• Purpose: What is the money intended for? Retirement? New house fund? Children’s
education?
• Investment time horizon: When will the money be needed?
• Asset allocation: Will the portfolio be all stocks or all certificates of deposits or some
combination?
• Rebalancing: How often will you rebalance?
• Return expectation: This section is optional but if you have an idea of what kind of
return you are expecting then write it down.
• Investments: This section should outline what type of investments are eligible for your
portfolio – ie large cap stocks on the S&P 500, index funds, etfs.
• Benchmarks: Another optional section – If you are an active investor then you might
choose to measure your portfolio against an appropriate set of stock and bond indexes.
• What Does Investment Policy Statement - IPS Mean?
A document drafted between a portfolio manager and a client that outlines general rules
for the manager.
 This statement provides the general investment goals and objectives of a client and
describes the strategies that the manager should employ to meet these objectives. Specific
information on matters such as asset allocation, risk tolerance, and liquidity requirements
would also be included in an IPS.

For example, an individual may have an IPS stating that by the time he or she is 60 years old his
or her job will become optional, and his or her investments will annually return $65,000 in
today's dollars given a certain rate of inflation. This would be only one of many points included
in an IPS; however, it probably would also include such things as general guidelines outlining
what the individual wants to leave behind to loved ones when he or she dies.

Professional Investment Policy Statements

A clearly defined Investment Policy Statement is the first step towards achieving your
investment objectives. A professionally prepared Investment Policy Statement identifies a
client’s Return Objectives, Risk Tolerance, and Portfolio Constraints (Liquidity, Legal
Requirements, Unique Circumstances, Time Horizon, and Tax Situation). Next, a Strategic Asset
Mix is created that will enable the portfolio to achieve these objectives while assuming the
lowest risk possible. Then asset mix policy weights and ranges are established to ensure the
client’s Risk Tolerances are not exceeded. Finally, the method for measuring portfolio success is
developed while establishing an appropriate benchmark portfolio.

ASSET ALLOCATION

Asset Allocation is the process of determining optimal allocations for the broad categories of
assets (such as Stocks, Bonds, Cash, Real Estate, ...) that suit your investment time horizon and
risk tolerance.
While this process can be performed on any portfolio with two or more assets, it is most
commonly applied to asset classes. This allocation is probably the most important decision and
may account for more than 80 % of the return of the portfolio.
Establishing an appropriate asset mix is a dynamic process and it plays a key role in determining
your portfolio's overall risk and return. As such, your portfolio's asset mix should reflect your
goals at any point in time. There are a few different strategies of establishing asset allocations,
and here we outline some of them and examine their basic management approaches.

Strategic Asset Allocation

Strategic asset allocation is a method that establishes and adheres to what is a "base policy mix."
This is a proportional combination of assets based on expected rates of return for each asset
class. For example, if stocks have historically returned 10% per year and bonds have returned
5% per year, a mix of 50% stocks and 50% bonds would be expected to return 7.5% per year.
Constant-Weighting Asset Allocation
Strategic asset allocation generally implies a buy-and-hold strategy, even as the shift in the
values of assets cause a drift from the initially established policy mix. For this reason, you may
choose to adopt a constant-weighting approach to asset allocation. With this approach, you
continually rebalance your portfolio. For example, if one asset were declining in value, you
would purchase more of that asset, and if that asset value should increase, you would sell it.
There are no hard-and-fast rules for the timing of portfolio rebalancing under strategic or
constant-weighting asset allocation. However, a common rule of thumb is that the portfolio
should be rebalanced to its original mix when any given asset class moves more than 5% from its
original value.
Tactical Asset Allocation
Over the long run, a strategic asset allocation strategy may seem relatively rigid. Therefore, you
may find it necessary to occasionally engage in short-term, tactical deviations from the mix in
order to capitalize on unusual or exceptional investment opportunities. This flexibility adds a
component of market timing to the portfolio, allowing you to participate in economic conditions
that are more favorable for one asset class than for others.
Tactical asset allocation can be described as a moderately active strategy, since the overall
strategic asset mix is returned to when desired short-term profits are achieved. This strategy
demands some discipline, as you must first be able to recognize when short-term opportunities
have run their course, and then rebalance the portfolio to the long-term asset position.

Dynamic Asset Allocation

Another active asset allocation strategy is dynamic asset allocation, with which you constantly
adjust the mix of assets as markets rise and fall and the economy strengthens and weakens. With
this strategy you sell assets that are declining and purchase assets that are increasing, making
dynamic asset allocation the polar opposite of a constant-weighting strategy. For example, if the
stock market is showing weakness, you sell stocks in anticipation of further decreases, and if the
market is strong, you purchase stocks in anticipation of continued market gains.

Insured Asset Allocation

With an insured asset allocation strategy, you establish a base portfolio value under which the
portfolio should not be allowed to drop. As long as the portfolio achieves a return above its base,
you exercise active management to try to increase the portfolio value as much as possible. If,
however, the portfolio should ever drop to the base value, you invest in risk-free assets so that
the base value becomes fixed. At such time, you would consult with your advisor on re-
allocating assets, perhaps even changing your investment strategy entirely.
You can implement an insured asset allocation strategy with a formula approach or a portfolio
insurance approach. The formula approach is a graduated strategy: as the portfolio value
decreases, you purchase more and more risk-free assets so that when the portfolio reaches its
base level, you are entirely invested in risk-free assets. With the portfolio insurance approach
you would use put options and/or futures contracts to preserve the base capital. Both approaches
are considered active management strategies, but when the base amount is reached, you are
adopting a passive approach.
Insured asset allocation may be suitable for risk-averse investors who desire a certain level of
active portfolio management but appreciate the security of establishing a guaranteed floor below
which the portfolio is not allowed to decline. For example, an investor who wishes to establish a
minimum standard of living during retirement might find an insured asset allocation strategy
ideally suited to his or her management goals.
Integrated Asset Allocation
With integrated asset allocation you consider both your economic expectations and your risk in
establishing an asset mix. While all of the above-mentioned strategies take into account
expectations for future market returns, not all of the strategies account for investment risk
tolerance. Integrated asset allocation, on the other hand, includes aspects of all strategies,
accounting not only for expectations but also actual changes in capital markets and your risk
tolerance. Integrated asset allocation is a broader asset allocation strategy, albeit allowing only
either dynamic or constant-weighting allocation. Obviously, an investor would not wish to
implement two strategies that are competing with one another.

Conclusion
Asset allocation can be an active process to varying degrees or strictly passive in nature. Whether
an investor chooses a precise asset allocation strategy or a combination of different strategies
depends on that investor's goals, age, market expectations and risk tolerance.
Keep in mind, however, that this article gives only general guidelines on how investors may use
asset allocation as a part of their core strategies. Be aware that allocation approaches that involve
anticipating and reacting to market movements require a great deal of expertise and talent in
using particular tools for timing these movements. Some would say that accurately timing the
market is next to impossible, so make sure your strategy isn't too vulnerable to unforeseeable
errors.

The Importance of Portfolio Rebalance

When you construct your investment portfolio it is important to allocate your assets in an
appropriate way. However, in the course of investing the portfolio may go out of balance. Thus,
it is important to rebalance it from time to time in order to bring the proportions back into their
previous rates.
A change on the proportion of stocks, bonds and cash may result in profit. However, the balance
has changed, which may result in deviating from the ideal for the investor asset allocation. The
latter is mainly determined by the risk tolerance of the investor. So, a change in the asset
allocation may lead to the exposure of higher risk levels.
A conservative investor, who is unwilling and unable to take higher risk will immediately
reexamine the portfolio and rebalance it.

Portfolio Rebalancing

The rebalancing of the investment portfolio can be done in several ways.

1. Sell the stocks that have put the portfolio out of balance due to high increase in their value.
The proceeds can be used to invest in other bonds and cash. This should be repeated until the
predetermined percentages are again restored.
2. Sell the stocks that are underperforming. The proceeds can be again used to invest in bonds
and cash.
3. Use extra money to invest in bonds and cash in order to adjust the proportions to their original
level.
If you decide not to take any action you risk exposing yourself to a higher level of risk than you
are willing and able to accept. The purpose of balancing the portfolio is to achieve the asset
allocation that best suits your needs and financial goals.
When to rebalance the portfolio? It is generally recommended that you rebalance your
investment portfolio whenever the assets deviate approximately 5% from the allocation you have
determined when setting the portfolio.
Portfolio rebalance may be needed due to natural change over longer periods of time. Another
reason to consider rebalancing your portfolio is if there is an abrupt change in any of the asset
classes.
You should also keep in mind that you may need to rebalance the proportions within the asset
classes themselves. For example one of the components of the stock class has experienced an
increase. You can apply the same techniques as the ones that apply for balancing the asset
classes.

What if You Do Nothing

If you are unwilling and unable to take higher levels of risk, taking no action to rebalance your
portfolio may lead to restless nights.
If one of the assets grows out of proportion, a decline in this sector may lead to huge losses. The
chances to compensate for these losses are significantly decreased, since the other asset classes
have been overlooked by your inaction.
Finally, rebalancing your portfolio whenever the need arises is of extreme importance. This is
required in order to keep up with the plan you have established so that you can reach your
financial goals in a timely manner. If a significant change in your asset proportions has occurred
take immediate actions in order not to expose yourself to higher level of risk than you can face.
To be a successful investor you need two main things - the knowledge and the right trading
platform.

How to Build a Diversified Core Portfolio

1. Establish your personal goals
The first step to building a diversified portfolio is to define what you're trying to achieve with
your investment — do you have one investment goal, or several? Are you saving for a home,
tuition, retirement, or something else entirely?
Once you know what you're trying to achieve, determine whether your investment will be over
the course of a few years or a few decades. Then figure out when you'll begin using the assets
you expect to accumulate, and how long you hope to continue making those withdrawals.
After you've defined your goal and time horizon, you need to assess your risk tolerance. This
means making sure the level of risk you're comfortable living with is aligned with the returns
you expect or seek.
Finally, take a careful look at your available assets, income and expenses. You need to know
how much you want to initially fund your investment with, and how much you'll be able to
regularly contribute thereafter. Only then will you be in a position to gauge whether your
investment goal is realistic, or whether you need to reconsider any of the variables.
2. Set your portfolio strategy
Now that you know where you want to go financially, you need to figure out how you're going to
get there. Having a savings account or owning your home are important to the big picture, but
you may also want to consider additional investment products if you expect to achieve all your
investment goals.
Keep in mind that investing isn't a random exercise. You want to assemble an investment
portfolio that's right for you. To do this, you need an asset allocation strategy. It's the road map
you'll use to help you diversify your overall investment across an array of asset classes.
An allocation strategy shouldn't include putting all your eggs in one basket. Different asset
classes don't always behave the same in different types of markets, and a properly diversified
portfolio will provide you with a greater probability of achieving your investment goals without
exposing you to more risk than you're comfortable with.
3. Execute your strategy
Once you know what your financial goals are and have a plan to reach them, you need to begin
taking steps to arrive at your destination. Research — that which you do yourself combined with
the research you can rely on for a second opinion — will help you identify the asset classes, sub-
asset classes and security types you should have in your portfolio.
Research will help you answer difficult questions. For example, if you think you should have
exposure to precious metals in your portfolio, would it be better to buy a mining stock, or an
Exchange Traded Fund (ETF) that tracks the metal in the commodities markets? Should you buy
stocks in individual companies, through mutual funds, ETFs, or any other investment
instruments? What about bonds? Should you buy Treasuries, Agencies, Corporates or
Municipals? And no matter what you invest in, you always want to get the best value in terms of
acquisition costs and fees and tax treatment.
4. Analyze your performance
Your investment journey doesn't end once you've built your portfolio. You need to regularly
reevaluate your portfolio's actual performance — compare your current asset positions against
the target allocations defined in your asset allocation strategy. If you need help, we can show you
how.
Over time, the value of individual assets in your portfolio is likely to change. These fluctuations
can lead your portfolio's asset allocation mix to drift out of balance from your target allocation
model. To bring your portfolio back to its original mix, you need to periodically rebalance it by
selling securities that have increased in value and buying those securities that have decreased in
value. It doesn't take much time, and our tools and services make it simple.
Ultimately, the analysis of your portfolio requires you to focus on what has worked and what can
be done better. Then it takes discipline to periodically rebalance your portfolio — it's the best
way to keep your asset allocation aligned with your goals.