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Investment Analysis And The Portfolio Management

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Question:

Discuss about the Investment Analysis and the Portfolio Management.

 

Answer:

Identifying the financial crisis for analysis:

The financial crisis of 2008 is mainly used for the analysis part in the study, which destroyed banking and financial sector of the world. The financial crisis of 2008 was one the major atrocities in the modern world, where capital market and financial sector all around the world crumbled. The analysis of financial crisis might help in detecting the problems that was the main cause for the decline in financial sector. The augmentation of the financial crisis started with the announcement from George Bush regarding the fulfilment of every citizens American Dream.

Tracking the flow of events that took place about the causes:

The announcement of low priced housing loan to individuals all around America started the sphere of financial crisis. The announcement made by George Bush after the commencement of Presidential house started a crippling effect, where banks could issue loans to all individuals residing in America. The time line for the Global Economic & Financial Crisis are depicted as follows.

Date

Event

Year 2007

Housing crisis deepens, as the losses in subprime loan rises due to the increment in worthless assets as foreclosures grows. This damage in mortgages sector reaches the top echelons of Wal Street.

February 7, 2007

Announcement of losses linked with US subprime mortgages announced by HSBC

February 7, 2007

Freddie Mac indicated that they will not buy risky subprime loans any further due to management the increment in defaulters of loan.

April 2007

New Century Financial files bankruptcy-court protection, who was on the major subprime mortgage lender in US. The declining value and rising risk involved in mortgage industry might led to financial instability of New Century Financial.

August 2007

The American Home Mortgage Investment also files for bankruptcy protection due to the declining mortgage value and returns.

August 2007

Rating of Countrywide Financial was reduced by Fitch Rating to its third lowest investment grade due to the declining valuation of mortgage.

January 2008

The recession in US economy starts due to the crisis in subprime mortgages and mortgage credit market.

January 2008

Countrywide Financial is bought by Bank of America for about $4 billion

March 2008

Federal Reserve agrees to guarantee $30 billion of Bear Streams assets in connection with government sponsored sale to JPMorgan Chase.

July 2008

IndyMac Federal Bank was seized by Federal regulators, as it became largest regulated thrift to fail

September 2008

The government takes over Freddie Mac and Fannie Mae due to the accumulation of high debt

September 2008

Merrill Lynch agreed to buy bank of America for $50 billion

September 2008

Lehman Brothers filed bankruptcy protection due to its incapability to continue their operations.

September 2008

American internal group accepts $85 billion as the bailout package and introduced 79.9% stake to the government.

October 2008

Congress passes the Bailout rescue package requesting Federal loans from TARP

Discussing the financial impact on the country or region:

The financial crisis of 2008 was not restricted to USA instead it demolished the entire financial sector of the world. This was due to the involvement of other countries in mortgage securities of US. The different types of impacts on the country origin due to the augmentation of financial crisis, where companies became bankrupt and the financial sector was not able to continue with its operations. the financial crisis started due to the increment in fed interest rates, which was higher than the actual mortgage interest rates (Feldkircher 2014). This relevantly increased the interest payments of mortgage holders, which in turn raise the level of defaulters of mortgage loans. this crippling effect was seen all around US, where individuals over defaulting due to high loan repayment and companies having high exposure to mortgage bonds were not able to receive payments for their loans.

This was the augmentation of financial crisis, where companies highly exposed to mortgage bonds not able to generate adequate revenues. On the other hand, the accumulation of faulty mortgage bonds increased within the financial sector of US. Big companies with thousands of employees we've been bankrupt due to the unavailability of funds for containing the operations. This increased the unemployment rate in US, while deflated the overall economy. The economic crisis also hampered in the stock market or capital market condition of US, where continuous decline in values of Assets and shares was seen. This is relatively declined the US Stock Market aggressively towards new loan. Furthermore, the rising default rate initiated a mass selling of property all across the US, which relatively declined actual value of the property (Jones and Murphy 2016).

Massive unemployment, low growth, closure of big companies, job insecurity, and falling financial sector of US was the main impact of financial crisis. The negative impact of financial crisis was not restricted to US, instead it crumbled the entire financial sector of the world, which started mass unemployment and bankruptcy all around the world. The effects of the financial crisis can be seen today, where subdivisions of the financial sector have not fully recovered from the losses.

 

Discussing the consequence of such crisis on economy, social and politics:

There are high consequences for such kind of financial crisis on Economy, social and politics of the country. The financial crisis firstly impacts the economy of the country, where it destroys or disintegrates maximum of the companies who has that exposure on debt. The chain of events will mainly start due to the augmentation of financial crisis, where companies with Low financial capability will not able to operate in the crisis. This relatively indicates that companies with the exposure of high depth would eventually fall in the stock market. The financial crisis will eventually reduce the revenue generation capacity of the companies, as consumers will have low purchasing power due to the unstable economy. this would result in low growth and high expenses of the companies management (Nelson and Katzenstein 2014).

Due to the continuous decline in Economic condition of the country, negative impact on social measure would also increase. Discontinued degradation of the economy would eventually lead to high unemployment and negatively impact the social condition of the country. The result of high unemployment would create uncertainty and stress among the youth of the country. This would eventually hamper the functional capability of the society to conduct ethical and just activities. The rising unemployment rate would eventually force the youth to take unethical decisions to support their livelihood, which would deteriorate the standard of living in society. Furthermore, the financial crisis would you also reduce the availability of adequate resources for the individual and Society, which might initiate a public sphere within the country (Lins, Servaes and Tamayo 2017).

There will be immense political consequences for the country, as appropriate charities were not able to regulate the companies, which initiated the economic crisis. Changes in political condition would eventually increase due to the augmentation of financial crisis, as people needs change and the person providing the change would be the new political leader of the country. Furthermore, the political condition would deteriorate, where the government would eventually draft out a way for halting the progress of financial crisis. Hence, political summary of the country would change, where ways of reducing the negative impact of financial crisis will be identified (Berk and Rauch 2016).

 

Discussing how it could be prevented by looking in the hindsight:

There are different ways in which prevention of the financial crisis can be conducted by governments and companies. The main prevention that need to be conducted are the unethical operations, which is been steered throughout the country. Control of unethical measures would eventually allow the prevention of financial crisis, as the evaluation indicated the problem related to organizations and authorities. The regulator of companies needs to conduct through evaluation of their annual report and financial position, which could negatively hamper the capital market. Moreover, fines and punishment to independent auditor's needs to be conducted by the regulator's, as they were the main culprits of not providing the actual financial position of the company in their annual report. On the other hand, the independent auditor report indicated the financial capability of the company to continue its operation effectively without any interruption (Floyd, Li and Skinner 2015).

The Other preventive measure needs to be conducted on Bank regulator, who are responsible to provide loans. The declining mortgage market was due to the faulty loan accumulation conducted by banks, which was generated by marketing representatives, who manipulated client’s data and provided them with funds without the capability to repay them in time. This would eventually help in reducing problems faced during the financial crisis of 2008, which was due to the unethical measures of banks and loan providers. The third and foremost measure that needs to be conducted is the interest rates provided by Central Bank or FED. Control on interest rates need to be conducted, as it directly linked with the liquidity and prosperity conditions of the economy. The reduction and increment in industry needs to be conducted through adequate evaluation, as any certain move would either the hamper the economic condition or increase cash flow within the economic (Benetrix, Lane and Shambaugh 2015).

Stating the expected return and standard deviation of portfolio and optimised portfolios:

The above figure mainly helps in depicting the overall return and standard deviation of the portfolios created for investment. The normal portfolio has a return of 37.55%, while the standard deviation is at 17.08%. This indicates that the portfolio provides adequate return from investment. However, different portfolios are also evaluated such as minimum variance portfolio, maximum Sortino ratio portfolio, and maximum Sharpe ratio portfolio. Moreover, the returns from minimum variance portfolio is 31.29%, while its standard deviation is at 14.7% (Portfoliovisualizer.com 2018). Furthermore, the maximum Sortino ratio indicates return of 36.76%, while a standard deviation of 16.42%. Lastly, the maximum Sharpe ratio portfolio portrays a return of 36.21% with the standard deviation of 16.7%. Hans, it could be stated that minimum variance portfolio has the least risk involved in investment, while it also provides the lowest return among all the portfolios. This indicates that use of Sortino ratio portfolio could be conducted by the investors as it has the highest return with second highest risk involved investment. This could eventually allow the investor to generate adequate returns and improve the profitability.

 

Comparing the provide portfolio with optimised portfolios:

All the optimized portfolios relatively have different attributes in comparison with the portfolio created for investment. The maximum Sharpe ratio portfolio provides a lower return than the actual portfolio, where both the returns and the risk involved is low. this relatively indicates that using maximum Sharpe ratio would eventually reduce the actual returns provided from an investment, while the risk would also reduce. Therefore, could be stated that using the maximum Sharpe ratio value would eventually allow the investor to control risk and improve the profitability. On the other hand, the evaluation of maximum Sortino ratio is relatively adequate where 36.76% is estimated to be on from the portfolio with low risk involved in investment (Portfoliovisualizer.com 2018). However, the maximum Sortino ratio portfolio does not provide the adequate returns, as compared to the actual returns of the portfolio. Lastly, minimum portfolio variance is conducted which indicates the overall low risk from investment that is generated from the portfolio. Moreover, the minimum variance portfolio could be used by investors who have low risk attribute and does not want to increase their risk from investment. Therefore, from the comparison of all the three portfolios it could be identified that use of Sortino ratio portfolio could eventually allow the investors to reduce the risk and generate adequate returns from investment.

From the analysis of 3 portfolios depicting which one is the most comfortable:

The valuation of all the three portfolios mainly states the overall returns and risk involved in their investment. However, the compatibility level of the portfolios is mainly based on the investors requirement, where investors with high risk capability will go with normal portfolio weights. On the other hand, investors with low risk profile will go with minimum portfolio variance, where risk from investment is reduced substantially. Moreover, the use of Sortino ratio portfolio would eventually allow investors to achieve higher Returns, while reducing the risk from investment (Portfoliovisualizer.com 2018). However, from the investment point of view minimum variance portfolio is the best possible choice and comfortable for all the level of investors. This is due to the lowest attribute of the portfolio, and the level of returns that is provided from investment. in comparison to all the other portfolios the return is relatively low but it is more than 30% of the investment. However, the risk is substantially low in comparison to all the Investments, which could eventually allow investors to reduce the negative impact of capital market on their portfolio.

Stating how the portfolio compares with tangency portfolio:

The tangency level of the portfolio is relatively detected from the above figure, where investment weights change effectively for improving returns and reduce the risk from investment. From the valuation it could be indicated that US Large Cap sector mainly has 95.51% of the overall portfolio, is it expected to grow exponentially and provide returns with low risk (Portfoliovisualizer.com 2018). The other portfolios actively have an investment range of 1% to 1.49%, which relatively helps in reducing the risk from investment and improve the return generation capability. The above graph mainly indicates the overall returns and risk involved in all the relative investment sectors currently present in US. From all the investment scope it is identified that US Large Cap has the least risk involved in investment, while it is the second highest return provider. The efficient Frontier graph adequately indicates all the relevant risk and return attributes of the different sectors of investment, which could be conducted by investors. Moreover, for increasing the return generation capacity US Large Cap Growth Fund could be used in the portfolio, which relatively has the highest risk involved in investment.

 

Examining the autocorrelations among the asset classes that has been chosen:

The above figure meaning helps in detecting the autocorrelation of all the different funds available from investment. From the overall evaluation it could be identified that all the relevant funds are highly correlated, at the value ranges from 0.75 to 1 (Portfoliovisualizer.com 2018). This indicates that the funds are interrelated and is highly correlated with each other. This relatively states that any increment in value of one fund would eventually increase the value of other. Moreover, this identification of the correlation could eventually allow investors to formulate adequate portfolio, which will have low risk from investment. In this context, Li and Yang (2017) mention that with the use of adequate statistical tools investors are able to detect actual returns and risk involved in investments. However, Lombardi and Ravazzolo (2016) argued that Investments conducted based on valuation and statistical tools only represent the current risk involved in investment, whereas the actual growth and valuation allows investors to improve the return from investment.

 

 

Reference:

Armantier, O., Ghysels, E., Sarkar, A. and Shrader, J., 2015. Discount window stigma during the 2007–2008 financial crisis. Journal of Financial Economics, 118(2), pp.317-335.

Bénétrix, A.S., Lane, P.R. and Shambaugh, J.C., 2015. International currency exposures, valuation effects and the global financial crisis. Journal of International Economics, 96, pp.S98-S109.

Berk, I. and Rauch, J., 2016. Regulatory interventions in the US oil and gas sector: How do the stock markets perceive the CFTC's announcements during the 2008 financial crisis?. Energy Economics, 54, pp.337-348.

Chandra, P., 2017. Investment analysis and portfolio management . McGraw-Hill Education.

Feldkircher, M., 2014. The determinants of vulnerability to the global financial crisis 2008 to 2009: Credit growth and other sources of risk. Journal of international Money and Finance, 43, pp.19-49.

Floyd, E., Li, N. and Skinner, D.J., 2015. Payout policy through the financial crisis: The growth of repurchases and the resilience of dividends. Journal of Financial Economics, 118(2), pp.299-316.

Goh, B.W., Li, D., Ng, J. and Yong, K.O., 2015. Market pricing of banks’ fair value assets reported under SFAS 157 since the 2008 financial crisis. Journal of Accounting and Public Policy, 34(2), pp.129-145.

Gottschlich, J. and Hinz, O., 2014. A decision support system for stock investment recommendations using collective wisdom. Decision support systems, 59, pp.52-62.

Jones, M. and Murphy, P., 2016. Performance in adversity: how did English local governments that improved their performance prior to 2008 fair under austerity following the impact of 2008 financial crisis?.

Kevin, S., 2015. Security analysis and portfolio management . PHI Learning Pvt. Ltd..

Lahmiri, S., 2015. Long memory in international financial markets trends and short movements during 2008 financial crisis based on variational mode decomposition and detrended fluctuation analysis. Physica A: Statistical Mechanics and its Applications, 437, pp.130-138.

Li, S. and Yang, H., 2017. Interactions of International Portfolio Flows: an Empirical Study Based on Network Analysis. Procedia Computer Science, 122, pp.826-833.

Lins, K.V., Servaes, H. and Tamayo, A., 2017. Social capital, trust, and firm performance: The value of corporate social responsibility during the financial crisis. The Journal of Finance, 72(4), pp.1785-1824.

Lombardi, M.J. and Ravazzolo, F., 2016. On the correlation between commodity and equity returns: implications for portfolio allocation. Journal of Commodity Markets, 2(1), pp.45-57.

Morris, M.H., Neumeyer, X. and Kuratko, D.F., 2015. A portfolio perspective on entrepreneurship and economic development. Small Business Economics, 45(4), pp.713-728.

Nelson, S.C. and Katzenstein, P.J., 2014. Uncertainty, risk, and the financial crisis of 2008. International Organization,&Examining the autocorrelations among the asset classes that has been chosen:sp;68(2), pp.361-392.

Portfoliovisualizer.com. (2018). Efficient Frontier. [online] Available at: https://www.portfoliovisualizer.com/efficient-frontier#analysisResults [Accessed 19 Mar. 2018].

Portfoliovisualizer.com. (2018). Portfolio Optimization. [online] Available at: https://www.portfoliovisualizer.com/optimize-portfolio#analysisResults [Accessed 19 Mar. 2018].

Wadhwa, A., Phelps, C. and Kotha, S., 2016. Corporate venture capital portfolios and firm innovation. Journal of Business Venturing, 31(1), pp.95-112.

Wallace, M.L. and Rafols, I., 2015. Research portfolio analysis in science policy: Moving from financial returns to societal benefits. Minerva, 53(2), pp.89-115.

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