PORTFOLIO MANAGEMENT SERVICES

EXECUTIVE SUMMARY

In Today’s Competitive world, where banks and financial institutions provide

number of services which provides a customer with a wide spectrum of investment
opportunities. They in order to retain their customers provide them special services besides
traditional services.
The invention of new technology and services by banks and financial institutions has given
the consumers a wide range of investment avenues to invest in. One of the special services

brought out by banks and financial institutions is PORTFOLIO

MANAGEMENT SERVICES (PMS) which aims at providing an investor to invest a
combination of securities all together which enables him to earn maximum returns at minimum
level of risk.

The main objective of this project is to review the real meaning of Portfolio
Management, its objectives, role, framework, responsibilities of portfolio manger and the study
of various other issues related to it such as its comparison with, Mutual funds, role of Merchant

Bankers in Portfolio Management, SEBI guidelines.

I am inclined to this topic, as it has given me actual knowledge of this service along with its
working and how the portfolio manager manages the portfolio.
Moreover, it has guided me to understand this so called complex world of investment and also
increase my knowledge to such extent. I hope it will prove beneficial to me in developing my
further career.

INTRODUCTION

PORTFOLIO MANAGEMENT SERVICES

As per definition of SEBI Portfolio means “a collection of securities owned by an investor”. It

represents the total holdings of securities belonging to any person". It comprises of different

types of assets and securities. Portfolio management refers to the management or

administration of a portfolio of securities to protect and enhance the value of the underlying
investment. It is the management of various securities (shares, bonds etc) and other assets (e.g.
real estate), to meet specified investment goals for the benefit of the investors. It helps to reduce
risk without sacrificing returns. It involves a proper investment decision with regards to what to
buy and sell. It involves proper money management. It is also known as Investment
Management.
 Portfolio Management Services, called, as PMS are the advisory services
provided by corporate financial intermediaries. It enables investors to promote and protect their
investments that help them to generate higher returns. It devotes sufficient time in reshuffling the
investments on hand in line with the changing dynamics. It provides the skill and expertise to
steer through these complex, volatile and dynamic times. It is a choice of selecting and revising
spectrum of securities to it with the characteristics of an investor. It prevents holding of stocks of
depreciating-value. It acts as a financial intermediary and is subject to regulatory control of
SEBI.

ROLE OF PORTFOLIO MANAGEMENT

In the beginning of the nineties India embarked on a programme of economic liberalization and
globalization. This reform process has made the Indian capital markets active. The Indian stock
markets are steadily moving towards capital efficiency, with rapid computerization, increasing
market transparency, better infrastructure, better customer service, closer integration and higher
volumes. Large institutional investors with their diversified portfolios dominate the markets. A
large number of mutual funds have been set up in the country since 1987. With this
development, investment securities have gained considerable momentum.
Along with the spread of securities investment among ordinary investors, the acceptance of
quantitative techniques by the investment community changed the investment scenario in India.

Professional portfolio management, backed by competent research, began to be

practiced by mutual funds, investment consultants and big brokers. The Securities and Exchange
Board of India, the stock market regulatory body in India, is supervising the whole process with

a view to making portfolio management a responsible professional service to be

rendered by experts in the field. With the advent of computers the whole process of

portfolio management has become quite easy. The computer can absorb large
volumes of data, perform the computations accurately and quickly give out the results in a
desired form.

The trend towards liberalization and globalization of the economy has promoted free flow capital
across international borders. Portfolios now include not only domestic securities but also foreign
securities. Diversification has become international.

Another significant development in the field of portfolio management is the

introduction of derivatives securities such as options and futures. The trading in derivative

securities, their valuation, etc. has broadened the scope of portfolio management.
 Portfolio management is a dynamic concept, having systematic approach that
helps it to achieve efficiency in investment.

SCOPE OF PORTFOLIO MANAGEMENT

Portfolio management is a continuous process. It is a dynamic activity. The

following are the basic operations of a portfolio management:

Ø Monitoring the performance of portfolio by incorporating the latest market conditions.

Ø Identification of the investor’s objective, constraints and preferences.
Ø Making an evaluation of portfolio income (comparison with targets and achievements).
Ø Making revision in the portfolio.
Ø Implementation of strategies in tune with the investment objectives.
ELEMENTS OF PORTFOLIO MANAGEMENT

Portfolio management is an on-going process involving the following basic tasks:

ü Identification of the investor’s objectives, constraints and preferences, which will help
formulate the investment policy.
ü Strategies are to be developed and implemented in tune with the investment policy formulated.
This will help the selection of asset classes and securities in each class depending upon their risk-
return attributes.
ü Review and monitoring of the performance of the portfolio by continuous overview of the
market conditions, companies performance and investor’s circumstances.
ü Finally, the evaluation of the portfolio for the results to compare with the targets and needed
adjustments have to be made in the portfolio to the emerging conditions and to make up for any
shortfalls in achievement vis-à-vis targets.

The collection of data on the investor’s preferences, objectives, etc., is the foundation of
portfolio management. This gives an idea of channels of investment in terms of asset classes to
be selected and securities to be chosen based upon the liquidity requirements, time horizon,
taxes, asset preferences of investors, etc. these are the building blocks for the construction of a
portfolio.
According to these objectives and constraints, the investment policy can be formulated. The
policy will lay down the weights to be given to different asset classes of investment such as
equity share, preference shares, debentures, company deposits, etc., and the proportion of funds
to be invested in each class and selection of assets and securities in each class are made on this
basis. The next stage is to formulate the investment strategy for a time horizon for income and
capital appreciation and for a level of risk tolerance. The investment strategies developed by the
portfolio managers have to be correlated with their expectation of the capital market and the
individual sectors of industry. Then a particular combination of assets is chosen on the basis of
investment strategy and managers expectations of the market.

OBJECTIVES OF PORTFOLIO MANAGEMENT

The objective of portfolio management is to maximize the return and minimize the risk. These
objectives are categorized into:
1. Basic Objectives.
2. Subsidiary Objectives.

1. Basic Objectives
The basic objectives of a portfolio management are further divided into two kinds viz., (a)
maximize yield (b) minimize risk. The aim of the portfolio management is to enhance the return
for the level of risk to the portfolio owner. A desired return for a given risk level is being started.
The level of risk of a portfolio depends upon many factors. The investor, who invests the savings
in the financial asset, requires a regular return and capital appreciation.

2. Subsidiary Objectives
The subsidiary objectives of a portfolio management are expecting a reasonable income,
appreciation of capital at the time of disposal, safety of the investment and liquidity etc. The
objective of investor is to get a reasonable return on his investment without any risk. Any
investor desires regularity of income at a consistent rate. However, it may not always be possible
to get such income. Every investor has to dispose his holding after a stipulated period of time for
a capital appreciation. Capital appreciation of a financial asset is highly influenced by a strong
brand image, market leadership, guaranteed sales, financial strength, large pool of reverses,
retained earnings and accumulated profits of the company. The idea of growth stocks is the right
issue in the right industry, bought at the right time. A portfolio management desires the safety of
the investment. The portfolio objective is to take the precautionary measures about the safety of
the principal even by diversification process. The safety of the investment calls for careful
review of economic and industry trends. Liquidity of the investment is most important, which
may not be neglected by any investor/portfolio manager. An investment is to be liquid, it must
have “termination and marketable” facility at any time.
PORTFOLIO MANAGER

Ø Portfolio Manager is a professional who manages the portfolio of an investor with the
objective of profitability, growth and risk minimization.
Ø According to SEBI, Any person who pursuant to a contract or arrangement with a client,
advises or directs or undertakes on behalf of the client the management or administration of a
portfolio of securities or the funds of the client, as the case may be is a portfolio manager.
Ø He is expected to manage the investor’s assets prudently and choose particular investment
avenues appropriate for particular times aiming at maximization of profit. He tracks and
monitors all your investments, cash flow and assets, through live price updates.
Ø The manager has to balance the parameters which defines a good investment i.e. security,
liquidity and return. The goal is to obtain the highest return for the client of the managed
portfolio.
Ø There are two types of portfolio manager known as Discretionary Portfolio Manager and Non
Discretionary Portfolio Manager. Discretionary portfolio manager is the one who individually
and independently manages the funds of each client in accordance with the needs of the client
and non-discretionary portfolio manager is the one who manages the funds in accordance with
the directions of the client.
GENERAL RESPONSIBILITIES OF A PORTFOLIO MANAGER

Following are some of the responsibilities of a Portfolio Manager:

Ø The portfolio manager shall act in a fiduciary capacity with regard to the client's funds.
Ø The portfolio manager shall transact the securities within the limitations placed by the client.
Ø The portfolio manager shall not derive any direct or indirect benefit out of the client's funds or
securities.
Ø The portfolio manager shall not borrow funds or securities on behalf of the client.
Ø The portfolio manager shall ensure proper and timely handling of complaints from his clients
and take appropriate action immediately
Ø The portfolio manager shall not lend securities held on behalf of clients to a third person
except as provided under these regulations.

CODE OF CONDUCT OF A PORTFOLIO MANAGER

Every portfolio manager in India as per the regulation 13 of SEBI shall follow the following
Code of Conduct:
1. A portfolio manager shall maintain a high standard of integrity fairness.
2. The client’s funds should be deployed as soon as he receives.
3. A portfolio manager shall render all times high standards and unbiased service.
4. A portfolio manager shall not make any statement that is likely to be harmful to the integration
of other portfolio manager.
5. A portfolio manager shall not make any exaggerated statement.
6. A portfolio manager shall not disclose to any client or press any confidential information about
his client, which has come to his knowledge.
7. A portfolio manager shall always provide true and adequate information.
8. A portfolio manager should render the best pose advice to the client.
SEBI GUIDELINES TO PORTFOLIO MANAGEMENT

SEBI has issued detailed guidelines for portfolio management services. The guidelines have been
made to protect the interest of investors. The salient features of these guidelines are:

Ø The nature of portfolio management service shall be investment consultant.

Ø The portfolio manager shall not guarantee any return to his client.
Ø Client’s funds will be kept in a separate bank account.
Ø The portfolio manager shall act as trustee of client’s funds.
Ø The portfolio manager can invest in money or capital market.
Ø Purchase and sale of securities will be at a prevailing market price.

POWERS OF SEBI

The Securities and Exchange Board of India has the following powers to control and manage the
portfolio managers:

1. The portfolio manager shall submit to SEBI such reports, returns and documents as may be
prescribed.
2. SEBI may investigate the affairs of a portfolio manager such as inspection of books of
accounts, records, etc.,
3. SEBI has full authority in the event of violation of any provision to suspend or cancel the
license.
4. No exemptions will be given under any circumstances to portfolio manager.

OBJECTIVES OF INVESTORS

Following are the objectives of the investors:

1. Safety of their investment.
2. Maximum regulation return.
3. Liquidity.
4. Minimization of risk.
An investor may decide on the basis of a detailed study of marketing information that the shares
he has sold earlier are worth buying again. The current prices may be higher than the price at
which he has relinquished them. It is better to buy shares in a rising market than to hold on to
shares in a falling market. The growth potential of a company may improve due to the rising
trend in sales or profits, modernization and expansion changes in government policies and other
such factors.
INVESTORS ALERT

Do’s:
ü Only intermediaries having specific SEBI registration for rendering Portfolio management
services can offer portfolio management services.
ü Investors should make sure that they are dealing with SEBI authorized portfolio manager.
ü Investors must obtain a disclosure document from the portfolio manager broadly covering
manner and quantum of fee payable by the clients, portfolio risks, performance of the portfolio
manager etc.
ü Investors must check whether the portfolio manager has a necessary infrastructure to
effectively service their requirements.
ü Investors must enter into an agreement with the portfolio manager.
ü Investors should make sure that they receive a periodical report on their portfolio as per the
agreed terms.
ü Investors must make sure that portfolio manager has got the respective portfolio account by an
independent charted accountant every year and that the certificate given by the charted
accountant is given to an investor by the portfolio manager.
ü In case of complaints, the investors must approach the authorities for redressal in a timely
manner.

Don’ts:
ü Investors should not deal with unregistered portfolio managers.
ü They should not hesitate to approach the authorities for redressal of the grievances.
ü They should not invest unless they have understood the details of the scheme including risks
involved.
ü They should not invest without verifying the background and performance of the portfolio
manager.
ü The promise of guaranteed returns should not influence the investors.

TYPES OF RISK IN PORTFOLIO MANGEMENT

Each and every investor has to face risk while investing. What is Risk? Risk is the uncertainty of
income/capital appreciation or loss of both. Risk is classified into: Systematic risk or Market
related risk and Unsystematic risk or Company related risk.

· Systematic risk refers to that portion of variation in return caused by factors that affect the price
of all securities. It cannot be avoided. It relates to economic trends with effect to the whole
market. This is further divided into the following:

ü Market risks: A variation in price sparked off due to real, social political and economical events
is referred as market risks.

ü Interest rate risks: Uncertainties of future market values and the size of future incomes, caused
by fluctuations in the general level of interest is referred to as interest rate risk. Here price of
securities tend to move inversely with the change in rate of interest.

ü Inflation risks: Uncertainties in purchasing power is said to be inflation risk.

· Unsystematic risk refers to that portion of risk that is caused due to factors related to a firm or
industry. This is further divided into:

ü Business risk: Business risk arises due to changes in operating conditions caused by conditions
that thrust upon the firm which are beyond its control such as business cycles, government
controls, etc.

ü Internal risk: Internal risk is associated with the efficiency with which a firm conducts its
operations within the broader environment imposed upon it.

ü Financial risk: Financial risk is associated with the capital structure of a firm. A firm with no
debt financing has no financial risk. The extends depends upon the leverage of the firms capital
structure.

DIFFERENCE BETWEEN PORTFOLIO MANAGEMENT SERVICES (PMS) AND MUTUAL

FUNDS

While the concept of Portfolio Management Services and Mutual Funds remains the same of
collecting money from investors, pooling them and investing the funds in various securities.
There are some differences between them described as follows:
ü In the case of portfolio management, the target investors are high net-worth investors, while in
the case of mutual funds the target investors include the retail investors.
ü In case of portfolio management, the investments of each investor are managed separately,
while in the case of MFs the funds collected under a scheme are pooled and the returns are
distributed in the same proportion, in which the investors/ unit holders make the investments.
ü The investments in portfolio management are managed taking the risk profile of individuals
into account. In mutual fund, the risk is pooled depending on the objective of a scheme.
In case of portfolio management, the investors are offered the advantage of personalized service
to try to meet each individual client’s investment objectives separately while in case of mutual
funds investors are not offered any such advantage of personalized services.

ROLE OF MERCHANT BANKERS IN RESPECT TO PORTFOLIO MANAGEMENT

Merchant Banking is the institution, which covers a wide range of activities such as customer
services, portfolio management, credit syndication, insurance, etc. Merchant bankers are the
persons who are engaged in business of issue management by making arrangements regarding
selling, buying or subscribing securities as a manager, consultant, and advisor or by rendering
corporate advisory services.
Let us have a look on the role played by Merchant bankers in relation to Portfolio Management:
Portfolio refers to investment in different kinds of securities such as shares, debentures, etc. it is
not merely a collection of un-related assets but a carefully blended asset combination within a
unified framework. Portfolio management refers to maintaining proper combination of securities
in a manner that they give maximum return with minimum risk.
Merchant Bankers provide portfolio management services to their clients. Today the investor is
very prudent and he is interested in safety, liquidity, and profitability of his investment, but he
cannot study and choose the appropriate securities, he requires expert guidance. Merchant
bankers have a role to play in this regard. They have to conduct regular market and economic
surveys to know the following needs:
ü Monetary and fiscal policies of the government.
ü Financial statements of various corporate sectors in which the investments have to be made by
the investors.
ü Secondary market position i.e., how the share market is moving.
ü Changing pattern of the industry.
ü The competition faced by the industry with similar type of industries.

The Merchant bankers have to analyze the surveys and help the prospective investors in choosing
the shares. The portfolio managers will generally have to classify the investors based on capacity
and risk they can take and arrange appropriate investment. Thus portfolio management plans
successful investment strategies for investors. Merchant bankers also help NRI-Non Resident
Indians in selecting right type of securities and offering expertise guidance in fulfilling
government regulations. By this service to NRI account holders, Merchant bankers can mobilize
more resources for the corporate sector.
PORTFOLIO MANAGEMENT BY CORPORATES

Investors, whose objective is maximization of their wealth, own Corporates. Corporate

ownership pattern in India shows that the bulk owners are the financial institutions and mutual
funds, LIC, GIC, and other corporates, leaving aside, the FFIs, FIIs and NRIs. The ownership of
individual shareholders does not exceed an average to 20-30%. The interest of financial and non-
financial institutions and corporates do not coincide with that of individual shareholders who are
the true savers of the household sectors while the former categories are only intermediaries.
Corporate Managers secure funds from banks, and financial institutions, next only to promoters
and hence their interest stands prominent in the minds of the portfolio managers in the corporate
business. In case of listed corporate securities, there is no direct dialogue between Corporate
Managers and the individual investors, except through the daily price quotation of the scrip on
the exchanges. The share price reflects the investor’s perception of that company, relative to
others in the field.
The companies generally keep continuous contact and dialogue with financing bankers and
financial institutions and not with other categories of investors, in matter of operations. The role
of individual investors and remaining categories of investors can have their say only in the
Annual general body meetings or other extra ordinary general body meetings, called by the
corporate management.
The Government and SEBI regulations, the Company law and the Listing Agreement with the
Stock Exchange also guide the performance of corporates and their operations. The prudential
norms for raising resources, allocation of funds and declaration of dividends, etc., are governed
by the Law and Government notifications from time-to-time.
PORTFOLIO INVESTMENT BY FOREIGN INSTITUTIONAL INVESTORS

A country with a developing economy cannot depend exclusively on its own domestic savings to
propel its economy's rapid growth. The domestic savings of India presently are 25% of its GDP.
But this can provide only a 2 to 3% growth of its economy on annual basis. The country has to
maintain an 8 to 10% growth for a period of two decades to reach the level of advanced nations
and to wipe out widespread poverty of its people. The gap is to be covered by inflow of foreign
investment along with advanced technology. As per the Development Goals and Strategy of the
10th Plan, which is currently under implementation:
"The strategy to achieve a high annual growth target of 8.00% combines accelerated capital
accumulation to raise the average investment rate from 24.23% to 28.41% with an increase in
capital-use efficiency to reduce the ratio of incremental capital to output from 4.00 to about 3.55.
Private sector development, infrastructure development, and increased foreign investment and
trade are key to increasing efficiency"
The regular inflow of external capital investment is indispensable to sustain our economic
growth at the planned level and this is well recognized by the plan document itself. When
remittances are made by Foreign Institutional Investors for portfolio investments, such
remittances are on trading account, as securities can be bought, as well as sold back through
approved stock exchanges. This may be trading transaction, but net amount at any time
(purchases minus sales) is a significant figure and this adds to the foreign exchange reserves of
the country.
MANAGEMENT OF INVESTMENT PORTFOLIOS

Investment Management or Portfolio Management deals with the manner in which investors
analyze, select and evaluate investments in terms of their risks and expected returns. It is both an
art and a science.
The art aspect derives from the notion that some investors, by whatever means, have the ability
to consistently pick up investments that outperform other investments on a risk/expected-return
basis. Although many techniques have been developed to assist investors in the selection of
investments, the concept of market efficiency maintains that for most investors, the ability to
consistently select high-return/low risk investments may be difficult to do. An efficient market is
one where prices reflect a given body of information. In such a situation, one investment should
not persistently dominate another in terms of risk and expected return. In other words, markets
are said to be efficient if there is a free flow of information and market absorbs this information
quickly. James Lorie has defined the efficient security market as, “the ability of the capital
market to function, so that the prices of securities react rapidly to new information. Such
efficiency will produce prices that are appropriate in terms of current knowledge, and investors
will be less likely to make unwise investments.”
This brings to the science aspect of portfolio/investment management. If markets are reasonably
efficient in a risk/expected-return sense, investor’s objective should be to choose their preferred
levels of risk and expected return and to diversify as easily as possible to meet their investment
goal. As a consequence, portfolio management has become very analytical. Various techniques
are today available which enable investors to identify the diversified portfolio that has the
highest expected return at their preferred level of risk.

PORTFOLIO MANAGEMENT FRAMEWORK

Investment management, also referred to as portfolio management, is a complex and a dynamic

process or activity that may be divided into various phases as described as follows:

PORTFOLIO MANAGEMENT PROCESS

INTER RELATIONSHIP AMONG VARIOUS PHASES OF PORTFOLIO MANAGEMENT

1. SPECIFICATION OF INVESTMENT OBJECTIVES AND CONSTRAINTS:

The first step in the portfolio management process is to specify the investment policy that
consists of investment objectives, constraints and preferences of investor. The investment policy
can be explained as follows:

· OBJECTIVES
ü Return requirements: Return is the primary motive that drives investment. It is the reward for
undertaking the investment. The commonly stated investment goals are income, growth and
stability. Since income and growth represent two ways through which income is generated and
stability implies containment or elimination of risk. But investment objectives may be more
clearly expressed in terms of returns and risk. However, return and risk go hand in hand. An
investor would primarily be interested in a higher return (in the form of income or capital
appreciation) and lower level of risk. So he has to bear higher level of risk in order to earn high
return. How much risk he would be willing to bear to earn a high return depends on his risk
disposition. The investment objective should state the investor the preference of return in relation
to risk.

Specification of investment objectives can be done in following two ways:

Ø Maximize the expected rate of return, subject to the risk exposure being held within a certain
limit (the risk tolerance level).
Ø Minimize the risk exposure, with out sacrificing a certain expected rate of return (the target
rate of return).
An investor should start by defining how much risk he can bear or how much he can afford to
lose, rather than specifying how much money he wants to make. The risk he wants to bear
depends on two factors:
a) Financial situation
b) Temperament

To assess financial situation one must take into consideration: position of the wealth, major
expenses, earning capacity, etc and a careful and realistic appraisal of the assets, expenses and
earnings forms a base to define the risk tolerance.
After appraisal of the financial situation assess the temperamental tolerance of risk. Risk
tolerance level is set either by one’s financial situation or financial temperament which ever is
lower, so it is necessary to understand financial temperament objectively. One must realize that
risk tolerance cannot be defined too rigorously or precisely. For practical purposes it is enough to
define it as low, medium or high. This will serve as a valuable guide in taking an investment
decision. It will provide a useful perspective and will prevent from being a victim of the waves
and manias that tend to sweep the market from time to time.

ü Risk tolerance: Risk refers to the possibility that the actual outcome of an investment will
differ from its expected outcome. More specifically, most of the investors are concerned about
the actual outcome being less than the expected outcome. The wider the range of possible
outcomes, the greater is the risk. It all depends on the investor, how much risk he is able to bear.
If he is willing to bear high risk, he is expected to get high return and if he is willing to bear low
risk, he will get low return.

· CONSTRAINTS AND PREFERENCES

ü Liquidity: Liquidity refers to the speed with which an asset can be sold, without suffering any
loss to its actual market price. For example, money market instruments are the most liquid assets,
whereas antiques are among the least liquid.
ü Investment horizon: the investment horizon is the time when the investment or part of it is
planned to liquidate to meet a specific need. For example, the investment horizon for ten years to
fund the child’s college education. The investment horizon has an important bearing on the
choice of assets.
ü Taxes: The post – tax return from an investment matters a lot. Tax considerations therefore
have an important bearing on investment decisions. So, it is very important to review the tax
shelters available and to incorporate the same in the investment decisions.

ü Regulations: While individual investors are generally not constrained much by laws and
regulations, institutional investors have to conform to various regulations. For example, mutual
funds in India are not allowed to hold more than 10 percent of equity shares of a public limited
company.
ü Unique circumstances: Almost every investor faces unique circumstances. For example, an
endowment fund may be prevented from investing in the securities of companies making
alcoholic and tobacco products.

2. SELECTION OF ASSET MIX: Based on the objectives and constraints, selection of assets is
done. Selection of assets refers to the amount of portfolio to be invested in each of the following
asset categories:

ü Cash: The first major economic asset that an individual plan to invest in is his or her own
house. Their savings are likely to be in the form of bank deposits and money market mutual fund
schemes. Referred to broadly as ‘cash’, these instruments have appeal, as they are safe and
liquid.
ü Bonds: Bonds or debentures represent long-term debt instruments. They are generally of
private sector companies, public sector bonds, gilt-edged securities, RBI saving bonds, national
saving certificates, Kisan Vikas Patras, bank deposits, public provident fund, post office savings,
etc.
ü Stocks: Stocks include equity shares and units/shares of equity schemes of mutual funds. It
includes income shares, growth shares, blue chip shares, etc.
ü Real estate: The most important asset for individual investors is generally a residential house.
In addition to this, the more affluent investors are likely to be interested in other types of real
estate, like commercial property, agricultural land, semi-urban land, etc.
ü Precious objects and others: Precious objects are items that are generally small in size but
highly valuable in monetary terms. It includes gold and silver, precious stones, art objects, etc.
Other assets includes like that of financial derivatives, insurance, etc.

· Conventional wisdom on Asset Mix: The conventional wisdom on the asset mix is embodied in
two propositions:
ü Other things being equal, an investor with greater tolerance for risk should tilt the portfolio in
favor of stocks, whereas an investor with lesser tolerance for risk should tilt the portfolio in favor
of bonds. This is because, in general, stocks are riskier than bonds hence earn higher return than
bonds.
ü Other things being equal, an investor with a longer investment horizon should tilt his portfolio
in favor of stocks whereas an investor with a shorter investment horizon should tilt the portfolio
in favor of bonds. This is because the expected rate of return from stocks is very sensitive to the
length of the investment period; the risk from stock diminishes as investment period lengthens.

· The fallacy of Time Diversification: The notion or the idea of time diversification is fallacious.
Even though the uncertainty about the average rate of return diminishes over a longer period, it
also compounds over a longer time period. Unfortunately, the latter effect dominates. Hence the
total return becomes more uncertain as the investment horizon lengthens.
3. FORMULATION OF PORTFOLIO STRATEGY: After selection of asset mix, formulation of
appropriate portfolio strategy is required. There are two types of portfolio strategies, active
portfolio strategy and passive portfolio strategy.
· ACTIVE PORTFOLIO STRATEGY: Most investment professionals follow an active portfolio
strategy and aggressive investors who strive to earn superior returns after adjustment for risk.
The four principal vectors of an active strategy are:
ü Market Timing
ü Sector Rotation
ü Security Selection
ü Use of a specialized concept

ü Market timing: This involves departing from the normal (or strategic or long run) asset mix to
reflect one’s assessment of the prospects of various assets in the near future. Suppose an
investor’s investible resources for financial assets are 100 and his normal (or strategic) stock-
bond mix is 50:50. In short and intermediate run however he may be inclined to deviate from
long-term asset mix. If he expects stocks to out perform bonds, on a risk-adjusted basis, in the
near future, he may perhaps step up the stock component of his portfolio to say 60 to 70 percent.
Such an action, of course, would raise the beta of his portfolio. On the other hand, if he expects
the bonds to outperform stocks, on a risk-adjusted basis, in the near future, he may set up the
bond component of his portfolio to 60 to 70 percent. This will naturally lower the beta of his
portfolio. Market timing is based on an explicit or implicit forecast of general market
movements. The advocates of market timing employ a variety of tools like business cycle
analysis, advance-decline analysis, moving average analysis, and econometric models. The
forecast of the general market movement derived with the help of one or more of these tools are
tempered by the subjective judgment of the investor. Often, of course, the investor may go
largely by his market sense.

ü Sector Rotation: The concept of sector rotation can be applied to stocks as well as bonds. It is
however, used more commonly with respect to stock component of portfolio where it essentially
involves shifting the weightings for various industrial sectors based on their assessed outlook.
For example if it is assumed that cement and pharmaceutical sectors would do well compared to
other sectors in the forthcoming period, one may overweight these sectors, relative to their
position in market portfolio. With respect to bonds, sector rotation implies a shift in the
composition of the bond portfolio in terms of quality, coupon rate, term to maturity and so on.
For example, if there is a rise in the interest rates, there may be shift in long term bonds to
medium term or even short-term bonds. But we should remember that a long-term bond is more
sensitive to interest rate variation compared to a short-term bond.

ü Security Selection: Security selection involves a search for under priced securities. If an
investor resort to active stock selection, he may employ fundamental and or technical analysis to
identify stocks that seems to promise superior returns and overweight the stock component of his
portfolio on them. Likewise, stocks that are perceived to be unattractive will be under weighted
relative to their position in the market portfolio. As far as bonds are concerned, security selection
calls for choosing bonds that offer the highest yield to maturity at a given level of risk.

ü Use of a specialized Investment Concept: A fourth possible approach to achieve superior

returns is to employ a specialized concept or philosophy, particularly with respect to investment
in stocks. As Charles D. Ellis words says, a possible way to enhance returns “is to develop a
profound and valid insight into the forces that drive a particular group of companies or industries
and systematically exploit that investment insight or concept.” Some of the concepts of
investment practitioners are as follows:

ü Growth stocks
ü Value stocks
ü Asset-rich stocks
ü Technology stocks
ü Cyclical stocks

The advantage of cultivating a specialized investment concept or philosophy is that it will help
you to:
a) Focus efforts on a certain kind of investment that reflects ones abilities and talents
b) Avoid the distractions of pursuing other alternatives
c) Master an approach through sustained practice and continual self-critique.
As against these merits, the great disadvantage of focusing on a specialized concept is that it may
become obsolete. The changes in market may cast a shadow over the validity of the basic
premise underlying the investment philosophy.

· PASSIVE PORTFOLIO STRATEGY: The passive strategy rests on the tenet that the capital
market is fairly efficient with respect to the available information. The passive strategy is
implemented according to the following two guidelines:
ü Create a well-diversified portfolio at a predetermined level of risk.
ü Hold the portfolio relatively unchanged over time, unless it becomes inadequately diversified
or inconsistent with the investor’s risk-return preferences.

4. SELECTION OF SECURITIES: The following factors should be taken into consideration

while selecting the fixed income avenues:
· SELECTION OF BONDS (fixed income avenues)
ü Yield to maturity: The yield to maturity for a fixed income avenue represents the rate of return
earned by the investors if he invests in the fixed income avenue and holds it till its maturity.

ü Risk of default: To assess the risk of default on a bond, one may look at the credit rating of the
bond. If no credit rating is available, examine relevant financial ratios (like debt-to-equity ratio,
times interest earned ratio, and earning power) of the firm and assess the general prospects of the
industry to which the firm belongs.

ü Tax Shield: In yesteryears, several fixed income avenues offered tax shield, now very few do
so.

ü Liquidity: If the fixed income avenue can be converted wholly or substantially into cash at a
fairly short notice, it possesses liquidity of a high order.

· SELECTION OF STOCK (Equity shares)

Three board approaches are employed for the selection of equity shares:
ü Technical analysis
ü Fundamental analysis
ü Random selection
Technical analysis looks at price behavior and volume data to determine whether the share will
move up or down or remain trend less.
Fundamental analysis focuses on fundamental factors like the earnings level, growth prospects,
and risk exposure to establish the intrinsic value of a share. The recommendation to buy, hold, or
sell is based on a comparison of the intrinsic value and the prevailing market price.
Random selection approach is based on the premise that the market is efficient and securities are
properly priced.

5. PORTFOLIO EXECUTION: The next step is to implement the portfolio plan by buying or
selling specified securities in given amounts. This is the phase of portfolio execution which is
often glossed over in portfolio management literature. However, it is an important practical step
that has a significant bearing on the investment results. In the execution stage, three decision
need to be made, if the percentage holdings of various asset classes are currently different from
the desired holdings.

6. PORTFOLIO REVISION: In the entire process of portfolio management, portfolio revision is

as important stage as portfolio selection. Portfolio revision involves changing the existing mix of
securities. This may be effected either by changing the securities currently included in the
portfolio or by altering the proportion of funds invested in the securities. New securities may be
added to the portfolio or some existing securities may be removed from the portfolio. Thus it
leads to purchase and sale of securities. The objective of portfolio revision is similar to the
objective of selection i.e. maximizing the return for a given level of risk or minimizing the risk
for a given level of return.
The need for portfolio revision has aroused due to changes in the financial markets since creation
of portfolio. It has aroused because of many factors like availability of additional funds for
investment, change in the risk attitude, change investment goals, the need to liquidate a part of
the portfolio to provide funds for some alternative uses. The portfolio needs to be revised to
accommodate the changes in the investor’s position.
Portfolio Revision basically involves two stages:
ü Portfolio Rebalancing: Portfolio Rebalancing involves reviewing and revising the portfolio
composition (i.e. the stock- bond mix). There are three basic policies with respect to portfolio
rebalancing: buy and hold policy, constant mix policy, and the portfolio insurance policy.
Under a buy and hold policy, the initial portfolio is left undisturbed. It is essentially a ‘buy and
hold’ policy. Irrespective of what happens to the relative values, no rebalancing is done. For
example, if the initial portfolio has a stock-bond mix of 50:50 and after six months it happens to
be say 70:50 because the stock component has appreciated and the bond component has
stagnated, than in such cases no changes are made.
The constant mix policy calls for maintaining the proportions of stocks and bonds in line with
their target value. For example, if the desired mix of stocks and bonds is say 50:50, the constant
mix calls for rebalancing the portfolio when relative value of its components change, so that the
target proportions are maintained.
The portfolio insurance policy calls for increasing the exposure to stocks when the portfolio
appreciates in value and decreasing the exposure to stocks when the portfolio depreciates in
value. The basic idea is to ensure that the portfolio value does not fall below a floor level.
ü Portfolio Upgrading: While portfolio rebalancing involves shifting from stocks to bonds or
vice versa, portfolio-upgrading calls for re-assessing the risk return characteristics of various
securities (stocks as well as bonds), selling over-priced securities, and buying under-priced
securities. It may also entail other changes the investor may consider necessary to enhance the
performance of the portfolio.

7. PORTFOLIO EVALUATION: Portfolio evaluation is the last step in the process of portfolio
management. It is the process that is concerned with assessing the performance of the portfolio
over a selected period of time in terms of return and risk. Through portfolio evaluation the
investor tries to find out how well the portfolio has performed. The portfolio of securities held by
an investor is the result of his investment decisions. Portfolio evaluation is really a study of the
impact of such decisions. This involves quantitative measurement of actual return realized and
the risk born by the portfolio over the period of investment. It provides a mechanism for
identifying the weakness in the investment process and for improving these deficient areas. The
evaluation provides the necessary feedback for designing a better portfolio next time.

BASICS OF PORTFOLIO MANAGEMENT IN INDIA

In India, Portfolio Management is still in its infancy. Barring a few Indian banks, and foreign
banks and UTI, no other agency had professional portfolio management until 1987. After the
setting up of public sector mutual funds, since 1987, professional portfolio management, backed
by competent research staff became the order of the day. After the success of the mutual funds in
portfolio management, a number of brokers and Investment consultants some of whom are
professionally qualified have become portfolio managers. They have managed the funds of the
client on both discretionary and non-discretionary basis. It was found that many of them,
including mutual funds have guaranteed a minimum return or capital appreciation and adopted
all kinds of incentives that are now prohibited by SEBI.
The recent CBI probe into the operations of many market dealers has revealed the unscrupulous
practices by banks, dealers and brokers in their portfolio operations. The SEBI has then imposed
stricter rules, which included their registration, a code of conduct and minimum infrastructure,
experience and expertise etc. it is no longer possible for any unemployed youth, or retired person
or self-styled consultant to engage in portfolio management without the SEBI’s license. The
guidelines of SEBI are in the direction of making portfolio management a responsible
professional service to be rendered by the experts in the field.

ASPECTS OF PORTFOLIO MANAGEMENT

Basically, portfolio management involves:

ü A proper investment decision-making of what to buy and sell
ü Proper money management in terms of investment in a basket of assets to satisfy the asset
preferences of the investors.
ü Reduce the risk and increase the returns.

· Investment Strategy:
In India there are large number of savers, barring the 37% of population who are below the
poverty line. In a poor country like this, it is surprising that saving rate is high as 24% of GDP
per annum and investment at 26% of GDP. But the return in the form of output growth is as low
as5 to 7% per annum. One may ask why is it that high levels of investment could not generate
comparable rates of growth of output? The answer is poor investment strategy; involving high
capital output ratios, low productivity of capital, and high rates of obsolescence of capital. The
use of capital in India is wasteful and inefficient, despite the fact that India is labour rich and
capital poor. Thus the portfolio managers in India lack the expertise and experience, which will
enable them to have proper strategy for investment management.
Secondly, the average Indian household saves around 60% in the financial form and 40% in the
physical form. Of those in the financial form, nearly 42% is held in cash and bank deposits, as
per RBI data and they have return less than inflation rates. Besides a proportion of 35% of
financial savings is held in the form of insurance, pension funds, etc. while another 12% is in
government instruments and certificates like post office deposits, public provident fund, national
saving scheme, etc. the real returns on insurance and pension funds are low and many times
lower than average inflation rates. With the removal of many tax concessions from investments
in Post Office Savings, certificates, etc. they also become less attractive to small and medium
investors. The only investment, satisfying all their objectives is capital market instruments. These
objectives are income, capital appreciation, safety, liquidity, and hedge against inflation and
investment.

· Objectives of Investors:
The return on equity investments in the capital market particularly if proper investment strategy
is adopted would satisfy the above objectives and real returns would be higher than any other
saving instruments.
All investment involves risk taking. However, some risk free investments are available like bank
deposits or post-office deposits whose returns are called risk free returns of about 5-12%. So, the
returns on more risky investments are higher than that having risk premium. Risk is variability of
return and uncertainty of payment of interest and repayment of principal. Risk is measured by
standard deviation of the returns over the mean for a given period. Risk varies directly with the
return. The higher the risk taken, the higher is the return, under normal market conditions.

· Risk and Beta:

Risk is of two components – systematic market related risk and unsystematic risk. The former
cannot be eliminated or managed with the help of Beta (β), which is explained as follows:
β = % change of Scrip return
% change of Market return

If β = 1, the risk of the company is the same as that of the market and if β > 1, the company’s risk
is more than market risk and if β < 1, the reverse is the position.

· Time Value of Money:

In portfolio management and investment decision-making, time element and time value of
money are very relevant. Savings are automatic or induced. If induced, it requires a return
enough to induce to part with liquidity. Thus, the investors will part savings and liquidity if only
their time preference is satisfied by proper return.

· Compounding:
Future Value Factor (FVF) is (1+ r) ⁿ where (r) is the rate of interest required and (n) is the period
of years.

Fn = P (1+ r) ⁿ or Future value = present value x (Future Value Factor)

So, the return required by the savers is related to the waiting period, loss of consumption at
present, or liquidity and risk of loss of money or variance of returns.

· Discounting:
If the future flow of money is known as Cı, C2, C3, etc. what is the future value of them and how
much is he prepared to pay for them? If he deposits today Rs. 100 he gets Rs. 110 at the end of
one year and Rs. 121 at the end of 2 years, if interest rate is Rs. 10%. This process of finding the
present value for future money flow is called discounting. Present value of future amounts is:
P = F (n) 1
(1+ r)n
The multiplier 1 is called PVF or Present Value Factor.
(1+ r)n
It is necessary to know the amounts of cash flows (Fn), number of years (n) and the required rate
of return (r).

· Perpetuity:
When we receive a fixed sum of money every year up to infinity, it is called Perpetuity. Suppose,
if a person wants to receive Rs. 1000 and the equation is
PV = a
r
where,
PV is the present value of perpetuity,
‘a’ is the fixed periodic cash flow and
‘r’ is the rate of interest.

· Annuity:
Annuity is the constant cash flow for a finite time period of say 5 years (n). Examples of annuity
are found in the case of lease rentals, loan repayments, recurring deposits, etc.

· Application to Portfolio Management:

Portfolio Management involves time element and time horizon. The present value of future
returns/cash flows by discounting is useful for share valuation and bond valuation. The
investment strategy in portfolio construction should have a time horizon; say 3 to 5 years; to
produce desired results of 20-30% return per annum.
Besides, Portfolio Management should also take into account tax benefits and incentives. As the
returns are taken by investors net of tax payments, and there is always an element of inflation,
returns net of taxation and inflation are more relevant to tax paying investors. These are called
net real rates of returns, which should be more than other returns. They should encompass risk
free returns plus a reasonable risk premium, depending upon the risk taken on the instruments/
assets invested.

CONCLUSION

After the overall all study about each and every aspect of this topic it shows that portfolio
management is a dynamic and flexible concept which involves regular and systematic analysis,
proper management, judgment, and actions and also that the service which was not so popular
earlier as other services has become a booming sector as on today and is yet to gain more
importance and popularity in future as people are slowly and steadily coming to know about this
concept and its importance.
I also help both an individual the investor and FII to manage their portfolio by expert portfolio
mangers. It protects the investor’s portfolio of funds very crucially.
Portfolio management service is very important and effective investment tool as on today for
managing investible funds with a surety to secure it. As and how development is done every
sector will gain its place in this world of investment