Portfolio Construction
Using team approach, we design and implement portfolio construction through a disciplined allocation of resource focused on three areas of portfolio value.
- Fundamental value – Since any investment, particularly a fixed income security we design, represents a series of cash flow owed to the portfolio, we look for assurance that that cash flow is sustainable, both in amount and timing. Our credit and structured products analysis make such judgment and capsulate their official recommendation.
- Relative value – Relative value determination falls to the trading desk, where trader apply their knowledge of trading histories, intermarket spreads, dealer inventories, and end user portfolio to find and execute the best price.
- Structural value – portfolio manager is responsible for portfolio structure and ultimately determine how to construct and when to execute. This decision is based on the “Best fit” for our client portfolio.
Factor that derives this decision include –
- The existing and desired duration exposure, yield curve positioning, credit posture and liquidity requirement.
- Concentrations of risk by sector and sub sector, cash flow and volatility exposure and relevant accounting effects
Advance Bond Portfolio Management
In Order to effectively employ strategies that can control interest rate risk and enhance returns, you must understand the force that drives bonds markets, as well as the valuation and risk management practice of these complex securities in advanced bond portfolio management, Frank Fabozzi, Lionel martellni and philippe have brought together more than thirty experienced bond market professionals to help you do just that. Divided into comprehensive parts, advance bond portfolio management will guide you through the state of art technique used in the analysis of bonds and bonds portfolio management –
- General background information on fixed income markets & bond portfolio strategic.
- The design of a strategic benchmark.
- Various aspects of fixed income modeling that will provide key ingredients in the implementation of an efficient portfolio and risk management process.
- Interest rate risk and credit risk management.
- Risk factor involved in the management of an international bond portfolio.
Stock investors have different level of risk/return requirements bond investor will do the same thing. A young, aggressive bond investor may choose a high-risk bond & is willing to risk his principal investment. A retire may not be willing to take a risky bond investment and may instead invest in conservation bonds. Individual investors choose to invest in bond. Also, pension plans, banks, insurance companies and other institutions invest in bonds. At any rate all investors are interested in a bond investment strategy.
There are three major types of strategies:
- Passive Bond Portfolio Strategies - There are two major passive strategies:
- Buy-and-hold – This strategy simply involves buying a bond and holding it until maturity.
- Indexing – It involves attempting to build portfolio that will match the performance of a selected bond portfolio index.
- Active management strategies – These strategies require major adjustment to portfolio, trading to take advantage of interest rate fluctuation e.tc there are five major active bond portfolio management strategies.
- Interest rate anticipation – the strategy is designed to preserve capital (lose as little as possible) when interest rate rise (and bond price drop).
- Valuation analysis – this strategy requires lots of analysis and lots of trading based on the analysis based on your confidence of your analysis.
- Credit analysis – It involves examining bond issuer to determine if any changes the firm’s default risk can be identified.
- Yield spread analysis – A portfolio manager would monitor the yield relationship between various types of bonds and look for abnormalities.
- Bonds swaps
- Match funding techniques – the match funding technique incorporates the passive buy and hold strategy and active management strategies. The manager tries to match specify liability obligation due at specific time to a portfolio of bond in way that minimize the portfolio exposure to interest rate risk.
These techniques are meant to avoid or offset risk and they typically constant monitoring and many transactions to achieve the intended goal.
Portfolio Evaluation
Portfolio evaluating refers to the evaluation of the performance of the portfolio. It is essentially the process of comparing the return earned on a portfolio with the return earned on one or more other portfolio or on a benchmark portfolio. Portfolio evaluation essentially comprises of two functions, performance measurement and performance evaluation. Performance measurement is an accounting function which measures the return earned on a portfolio during the holding period or investment period. Performance evaluation, on the other hand, address such issues as whether the performance was superior or inferior, whether the performance was due to skill or luck etc.
The ability of the investor depends upon the absorption of latest developments which occurred in the market. The ability of expectations if any, we must able to cope up with the wind immediately. Investment analysts continuously monitor and evaluate the result of the portfolio performance. The expert portfolio constructer shall show superior performance over the market and other factors. The performance also depends upon the timing of investments and superior investment analysts’ capabilities for selection. The evolution of portfolio always followed by revision and reconstruction. The investor will have to assess the extent to which the objectives are achieved. For evaluation of portfolio, the investor shall keep in mind the secured average returns, average or below average as compared to the market situation. Selection of proper securities is the first requirement. The evaluation of a portfolio performance can be made based on the following methods:
1. Sharpe’ Measure:
The objective of modern portfolio theory is maximization of return or minimization of risk. In this context the research studies have tried to evolve a composite index to measure risk-based return. The credit for evaluating the systematic, unsystematic and residual risk goes to Sharpe, Treynor and Jensen. Sharpe measure total risk by calculating standard deviation. The method adopted by Sharpe is to rank all portfolios on the basis of evaluation measure. Reward is in the numerator as risk premium. Total risk is in the denominator as standard deviation of its return. We will get a measure of portfolio’s total risk and variability of return in relation to the risk premium. The measure of a portfolio can be done by the following formula:
SI = (Rt – Rf)/σf
Where,
- SI = Sharpe’s Index,
- Rt = Average return on portfolio,
- Rf = Risk free return and
- σf = Standard deviation of the portfolio return.
2. Treynor’s Measure:
The Treynor’s measure related a portfolio’s excess return to non-diversifiable or systematic risk. The Treynor’s measure employs beta. The Treynor based his formula on the concept of characteristic line. It is the risk measure of standard deviation, namely the total risk of the portfolio is replaced by beta. The equation can be presented as follow:
Tn = (Rn – Rf)/βm
Where,
- Tn = Treynor’s measure of performance,
- Rn = Return on the portfolio,
- Rf = Risk free rate of return and
- βm = Beta of the portfolio (A measure of systematic risk)
3. Jensen’s Measure:
Jensen attempts to construct a measure of absolute performance on a risk adjusted basis. This measure is based on CAPM model. It measures the portfolio manager’s predictive ability to achieve higher return than expected for the accepted riskiness. The ability to earn returns through successful prediction of security prices on a standard measurement. The Jensen measure of the performance of portfolio can be calculated by applying the following formula:
Rp = Rf + (RMI – Rf) x β
Where,
- Rp = Return on portfolio,
- RMI = Return on market index and
- Rf = Risk free rate of return
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