The main aim of portfolio analysis is to give a caution direction to the risk and return of an investor on portfolio. Individual securities have risk return characteristics of their own. Therefore, portfolio analysis indicates the future risk and return in holding of different individual instruments. The portfolio analysis has been highly successful in tracing the efficient portfolio. Portfolio analysis considers the determination of future risk and return in holding various blends of individual securities. An investor can sometime reduce portfolio risk by adding another security with greater individual risk than any other security in the portfolio. Portfolio analysis is mainly depending on Risk and Return of the portfolio. The expected return of a portfolio should depend on the expected return of each of the security contained in the portfolio. The amount invested in each security is most important. The portfolio’s expected holding period value relative is simply a weighted average of the expected value relative of its component securities. Using current market value as weights, the expected return of a portfolio is simply a weighted average of the expected return of the securities comprising that portfolio. The weights are equal to the proportion of total funds invested in each security.
Tradition security analyses recognize the key importance of risk and return to the investor. However, direct recognition of risk and return in portfolio analysis seems very much a “seat-of-the-pants” process in the traditional approaches, which rely heavily upon intuition and insight. The result of these rather subjective approaches to portfolio analysis has, no doubt, been highly successfully in many instances. The problem is that the methods employed do not readily lend themselves to analysis by others.
Most traditional method recognizes return as some dividend receipt and price appreciations aver a forward period. But the return for individual securities is not always over the same common holding period nor are he rates of return necessarily time adjusted. An analyst may well estimate future earnings and P/E to derive future price. He will surely estimate the dividend. But he may not discount the value to determine the acceptability of the return in relation to the investor’s requirements.
A portfolio is a group of securities held together as investment. Investments invest their funds in a portfolio of securities rather than in a single security because they are risk averse. By constructing a portfolio, investors attempt to spread risk by not putting all their eggs into one basket. Thus diversification of one’s holding is intended to reduce risk in investment.
Most investor thus tends to invest in a group of securities rather than a single security. Such a group of securities held together as an investment is what is known as a portfolio. The process of creating such a portfolio is called diversification. It is an attempt to spread and minimize the risk in investment. This is sought to be achieved by holding different types of securities across different industry groups.