The formation of an investment portfolio is determined by a number of factors. Among them, the following should be highlighted: investment goals, the current economic situation in the country and the world, stock market development, etc.
The process of optimization of the investment portfolio means a set of targeted actions of the investor to modify its structure. Let’s learn the basics of portfolio optimizer and methods to do it.
Why Do We Need Portfolio Optimization?
An effective investment portfolio provides one of two options:
- Maximum profitability with minimum (given) risk.
- Minimum risk at maximum (given) profitability.
As for the optimal one, it is usually understood as such a portfolio the composition of which to the greatest extent satisfies the needs and interests of the investor, taking into account the trading plan and the combination of profitability and risks.
Therefore, optimization goals depend on the fundamental position of the investor, including the ratio of risk and return and the type of investment policy chosen by them. In turn, the following tasks can be solved in the optimization process:
- Increase in the profitability of the investment portfolio
- Reduction of the risks of the investment portfolio
- Change in the number of elements in the investment portfolio
- Ensuring the internal stability of the investment portfolio
- Ensuring the growth of the company’s capitalization
How Is the Optimization Done?
The investment portfolio optimization is based on the following principles:
- It should be carried out within the framework of the developed and adopted investment strategy.
- Optimization should be aimed at combining profitability and risks within an acceptable range.
- The consideration of at least three to five options of different levels of profitability and risk is obligatory.
- The investment climate of the country and the region is taken into account.
- Decision-making is based on the assessment of the situation in the stock market.
- Assessment of systematic and non-systematic risks is made.
- Responsibility, professionalism, and competence of decision-makers are indispensable.
The methods for optimization are divided into several groups:
- Risk assessment of the implementation of an investment project (as a rule, the methods of this group are associated with the calculation of the mathematical expectation of damage in the absence of a successful practical implementation of the project).
- Assessment of profitability of investment projects and organization of their optimal combination in the portfolio.
- Economic and mathematical models and comprehensive assessments taking into account the profitability and risks of implementing investment projects (methods of Markowitz, Sharpe, Traynor, and others).
One of the popular recommendations when optimizing an investment portfolio (highlighted by both scientists and practicing investors) is its diversification, which is widely used in the practical application of any of the methods listed above.
The formation of an optimal investment portfolio is the most important task of the company in the implementation of the investment strategy. However, its implementation should be based on a strict set of goals and the formulation of a set of tasks based on them, and direct investments should be made exclusively in full accordance with the goals and objectives.