Asset Management Overview
1.0 Portfolios
A collection of investments is called a portfolio. A portfolio contains assets which need to be monitored from investment through the life of the investment to ensure that they do not lose value. This is done to minimise the amount of money that is lost, in doing so, minimising the capital that is at risk.
2.0 Asset Classes
The asset classes are often disputed. In my experience money is managed by investing it in the following assets:
- Stocks
- Bonds
- Real Estate
- Commodities
3.0 Asset Allocation
Clients give portfolio managers money and this is pooled in a fund. The fund manager allocates the pooled funds into the assets mentioned above. A fund manager may choose to invest only in one of the asset classes above. Generally, fund managers will stick to an asset class that they are familiar with or have experience investing in. This is due to the complex nature of each of the above markets.
4.0 Investment Horizon
One of the key factors that you need to take into consideration when purchasing an asset is the length of time you intend to own it. This is often referred to an investment horizon. Funds will try to maximise returns for as long as possible.
5.0 Risk
This is a rather expansive topic and varies per asset and the type of risk you are aiming to minimise. In asset management terms, when you purchase an asset thereis a probability of that asset going down in value. In order to try to minimise this, the fund manager will purchase assets across multiple industries. This is done so that if there is an impact to one industry the loss will be minimised. This is referred to diversification.
6.0 Measuring Performance
The increase of the fund's value is the most basic performance indicator. However, performance should be looked at with reference to the following
- Performance (Alpha)
- Sensitivity (Beta)
- Return
6.1 Performance
The benchmark is a fund or group of assets that you measure your fund against e.g. S&P 500. The % above the benchmark you attain can be considered true performance and is called Alpha.
As you can see from the example above Google is outperforming the technology benchmark
6.2 Sensitivity
The value of a portfolio can rise and fall in a manner that could be sharp or shallow, this is measured
relative to a benchmark. Concretely, for every % the benchmark moves what proportion does the portfolio
move. This measure is called Beta.
As you can see from the diagram above the same rise in the technology benchmark led to a large rise for Facebook but a small rise for google. This shows that Facebook is more sensitive to changes in the benchmark hence has a higher beta (which can be see by the area shaded in blue). This applies to both positive and negative swings in the market. Generally, risks are mitigated by investing in stocks from different industries. This means that if a particular industry drops in value you are protected by investments in other industries that would not have been affected.
6.3 Return
Assets rise and fall in value, some more than others. If the assets that have been invested in are particularly volatile this means that the portfolio manager might have been lucky to receive the return that was attained. Hence, a measure known as Risk Adjusted Return or Sharpe Ratio is used. However, these techniques can be gamed and there are better techniques which should be used e.g. the deflated sharpe ratio.
7.0 Real World
In my experience these are the main concepts that you need to give you a good understanding of portfolio management. I aim to write separate posts about certain aspects of these in more detail explaining the theory, maths and some code.