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Business finance-2 - Essay Example
Author : hauckantonetta
Finance & Accounting
Pages 20 (5020 words)
Business Finance [Pick the date] 2010-11s 1. Portfolio Theory and Its Implication to Investors in the Market Portfolio Theory Portfolio theory is tools investor used before committing themselves into long term or a short term investments in securities and equities…
In order to spread risks, most investors diversify by investing in more than one type of security or portfolio. It should be noted that investors like returns but at the same time dislikes risk and uncertainties (Sharpe, 2007). Though financial market has significant rewards and benefits, it is very complex and very volatile, thus critical analysis is required in risk evaluation so that the expected returns can be validated. Dating back in 1950s an American economist managed to establish the theory of portfolio choice (Markowitz, 1959). This was a tool used by investors during this period to analyze and predict risk in relations to the expected earnings or returns. Markowitz’s theory is the currently renowned Modern Portfolio Theory (MPT). Basically, it is an investment theory that was designed to help in maximizing portfolio returns. This is done relative to the level of portfolio risks meaning that a minimum risk levels correspondents to an equivalent expected return level. Though this theory has been widely applied within the financial sector, a lot of challenges have been pointed on its basic assumptions. However, being an improvement of the traditional investment framework, it provides an advance system for the application of the mathematical model, especially, in finance. ...