Portfolio Investment Process - Essay Example

Creating a portfolio involved asset allocation, asset selection decisions, and asset execution. In asset allocation, the investors will decide on what marketable securities will be investing, either in equities, fixed-income securities, and real assets (physical or identifiable assets). After the allocation, investors need to select on what are his asset preferences between stocks, bonds, and many more. The selection will be followed by the execution of the investment portfolio and investment strategy. The final part of the process is performance evaluation wherein investment is constantly monitored by the investors themselves or through a portfolio manager.

Bonds (Municipal & Corporate). It is a debt instrument with specific return, interest and principal, and maturity date (Brigham & Ehrhardt, 2008, p. 157). Municipal bonds are debt securities issued by the government level whose maturity date is on a long-term basis. These bonds are considered to be secured and these are issued to support government operations and projects for the common good. Municipal bonds are known to be tax-exempt but it depends upon the purpose and jurisdiction. Corporate bonds are debt securities issued by corporations or business firms to finance a variety of private purposes. These bonds are subject to a much higher interest rate for it is a risky investment (Brigham & Houston, 2009, p. 196).

Stocks (Common and Preferred). These are issued securities that represent ownership. Ownership through the purchase of stocks is called stockholders which are represented by stock certificates. Usually, stock prices of companies that are financially stable are high compared to those that are poor in performance because the higher the value of the stocks the greater the return on investment. There are two types of stocks, the common and the preferred stocks. In terms of the declaration of dividends and bankruptcy, preferred stockholders are satisfied first before the common shareholders (Investors Business Daily, 1996, p. 36). Both stocks run after income, the only difference is the risk involved. Preferred stocks are less risky but the growth income is fairly dependable while common stocks assumed higher risk but unlimited growth in income and capital gain (Rini, 2003, p. 33).

Mutual Funds. It is an investment that used money “from a group of people with common investment goals to buy securities such as stocks, bonds, money market instruments, a combination of these investments, or other funds” (Mobius, 2007, p. 3). These groups of investment securities are put together in a portfolio and it is appropriately managed by a portfolio manager. More often, investors prefer to invest in mutual funds because of access to a diversified portfolio, liquidity, and expertise by professional fund managers; however, mutual funds shared almost the same risk with investment in individual stocks, and drawbacks are always present.

Derivatives. It is a financial instrument based on the financial measurement of other assets that usually comes in contracts (Bragg, 2002, p. 156). Some of the derivative instruments are forward, future, options, and swaps. The value of derivatives is based on the prices of some underlying assets or instruments. It also involved contracts between a seller and a buyer wherein the value is based on bargaining power (Rezaee, 20001, p. 390).

Most investors invest in several stocks or multiple investment vehicles so that risk will be diversified. Risk is measured by standard deviation which is why investors invest in stocks which are low in standard deviation but with a high value of expected return. An efficient portfolio is hard to construct because a portfolio with a high expected return is also high in standard deviation (Dowd, 2005, p. 7). In other words, the riskier the portfolio, the more it is profitable. If this would be the case, the return of a single investment portfolio depends upon the willingness of an investor to take the risk; however, most investors are risk-averse wherein they do not tolerate becoming worthless in exchange for high returns. In practice, portfolio risk and return are calculated through estimation to make an optimal portfolio but this is the common source of mistakes among investors for expected returns are difficult to estimate in a market that changes at any time for any reason. To find an optimum balance between risk and return in every portfolio, there should have a structured investment process.

Investors invested in bonds because of specific expected returns and aside from retrieving their investment, they also gain interest from borrowers. However, the gain for bonds is relatively small and their prices are difficult to estimate due to their constant movement (Krantz, 2008, p. 334). Stock investment is considered to be the best investment for it is the most profitable. A mutual fund is a safe investment and good for those who are risk-averse; however, their costs seem to be too much (Wilkinson, 2006, p.5). On the other hand, derivatives are not actual purchases for most of them are based on contracts, and not all investment transactions will be completed after all. Finally, creating an efficient at the same time safe investment portfolio largely depends on the investors’ investment decision because all investments have drawbacks. Read More