PORTFOLIO THEORIES

(1)ARBITRAGE PRICING THEORY This theory describes the price where a mispriced asset is expected to be. It is often viewed as an alternative to the capital asset pricing model (CAPM), since the APT has more flexible assumption requirements. Whereas the CAPM formula requires the market's expected return, APT uses the risky asset's expected return and the risk premium of a number of macro-economic factors. Arbitrageurs use the APT model to profit by taking advantage of mispriced securities. A mispriced security will have a price that differs from the theoretical price predicted by the model. By going short an overpriced security, while concurrently going long the portfolio the APT calculations were based on, the arbitrageur is in a position to make a theoretically risk-free profit. (2)BEHAVIORAL PORTFOLIO THEORY Behavioral portfolio theory (BPT) was published by Shefrin and Statman. This theory essentially tries to provide a contrast to the fact that the ultimate motivation for investors is the maximization of the value of their portfolios. It suggests that investors have varied aims and create an investment portfolio that meets a broad range of goals. BPT bears a strong resemblance to a pyramid with distinct layers. Each layer has well defined goals. The base layer is devised in a way that it is meant to prevent financial disaster, whereas, the upper layer is devised to attempt to maximize returns, an attempt to provide a shot at becoming rich. This theory describes how investors behave. (3)CAPITAL ASSET PRICING MODEL The CAPM says that the expected return of a security or a portfolio equals the rate on a risk-free security plus a risk premium. If this expected return does not meet or beat the required return, then the investment should not be undertaken. (4)EFFICIENT FRONTIER A set of optimal portfolios that offers the highest expected return for a defined level of risk or the lowest risk for a given level of expected return. Portfolios that lie below the efficient frontier are sub-optimal, because they do not provide enough return for the level of risk. Portfolios that cluster to the right of the efficient frontier are also sub-optimal, because they have a higher level of risk for the defined rate of return. (5)FAMA AND FRENCH THREE MODEL FACTOR A factor model that expands on the capital asset pricing model (CAPM) by adding size and value factors in addition to the market risk factor in CAPM. This model considers the fact that value and small cap stocks outperform markets on a regular basis. By including these two additional factors, the model adjusts for the outperformance tendency, which is thought to make it a better tool for evaluating manager performance. (6)INTERTEMPORAL PORTFOLIO CHOICE The process of allocating one's investable wealth to various assets, especially financial assets, repeatedly over time, in such a way as to optimize some criterion. The set of asset proportions at any time defines a portfolio. Since the returns on almost all assets are not fully predictable, the criterion has to take financial risk into account. Typically the criterion is the expected value of some concave function of the value of the portfolio after a certain number of time periodsthat is, the expected utility of final wealth. Alternatively, it may be a function of the various levels of goods and services consumption that are attained by withdrawing some funds from the portfolio after each time period. (7) LOW-VOLATILTY ANOMALY The low-volatility anomaly is that portfolios of low volatility of stocks have produced higher risk-adjusted returns than portfolios with high-volatility stocks in most markets studied. (8) MASLOWIAN PORTFOLIO THEORY Maslowian Portfolio Theory (MaPT) creates a normative portfolio theory based on human needs as described by Abraham Maslow. Maslowian Portfolio Theory is quite simple in its approach. It states that financial investments should follow human needs in the first place. All the rest is logic deduction. For each need level in Maslow's hierarchy of needs, some investment goals can be identified, and those are the constituents of the overall portfolio. (9)MERTONS PORTFOLIO PROBLEM Merton's Portfolio Problem is a well-known problem in continuous-time finance and in particular intertemporal portfolio choice. An investor must choose how much to consume and must allocate his wealth between stocks and a risk-free asset so as to maximize expected utility. The problem was formulated and solved by Robert C. Merton in 1969 both for finite lifetimes and for the infinite case.[1] Research has continued to extend and generalize the model to include factors like transaction costs and bankruptcy. (10) MODERN PROTFOLIO THEORY According to the theory, it's possible to construct an "efficient frontier" of optimal portfolios offering the maximum possible expected return for a given level of risk. This theory was pioneered by Harry Markowitz. A theory on how risk-averse investors can construct portfolios to optimize or maximize expected return based on a given level of market risk, emphasizing that risk is an inherent part of higher reward. (11) MUTUAL FUND SEPARATION THEOREM In portfolio theory, a mutual fund separation theorem, mutual fund theorem, or separation theorem is a theorem stating that, under certain conditions, any investor's optimal portfolio can be constructed by holding each of certain mutual funds in appropriate

ratios, where the number of mutual funds is smaller than the number of individual assets in the portfolio. Here a mutual fund refers to any specified benchmark portfolio of the available assets. There are two advantages of having a mutual fund theorem. First, if the relevant conditions are met, it may be easier (or lower in transactions costs) for an investor to purchase a smaller number of mutual funds than to purchase a larger number of assets individually. Second, from a theoretical and empirical standpoint, if it can be assumed that the relevant conditions are indeed satisfied, then implications for the functioning of asset markets can be derived and tested. (12) POST-MODERN PORTFOLIO THEORY The differences between risk, as defined by the standard deviation of returns, between the post-modern portfolio theory and modern portfolio theory is the key factor in portfolio construction. Modern portfolio theory assumes that symetrical risk whereas PMPT assumes asymetrical risk. Downside risk captures what investors fear: having negative returns. After all, high positive returns are viewed as a good thing! (13) PORTFOLIO OPTIMIZATION Portfolio optimization is the process of choosing the proportions of various assets to be held in a portfolio, in such a way as to make the portfolio better than any other according to some criterion. The criterion will combine, directly or indirectly, considerations of the expected value of the portfolio's rate of return as well as of the return's dispersion and possibly other measures of financial risk. Often, portfolio optimization takes place in two stages: optimizing weights of asset classes to hold, and optimizing weights of assets within the same asset class. (14) PRINCIPLED REASONING Principled Reasoning offers a critique of modern portfolio theory and its related departure from classical economics in evaluating markets in isolation from production and consumption.[2] Principled Reasoning holds that risk is partly a function of failure to adhere to foundational principles of national prosperity in the country of domicile of the investment. (15) PROJECT PORTFOLIO MANAGEMENT Project Portfolio Management (PPM) is the centralized management of processes, methods, and technologies used by project managers and project management offices (PMOs) to analyze and collectively manage a group of current or proposed projects based on numerous key characteristics. The objectives of PPM are to determine the optimal resource mix for delivery and to schedule activities to best achieve an organ izations operational and financial goals while honouring constraints imposed by customers, strategic objectives, or external real-world factors. (16) RETURN BASED STYLE ANALYSIS Returns-based style analysis is a statistical technique used in finance to deconstruct the returns of investment strategies using a variety of explanatory variables. The

model results in a strategys exposures to asset classes or other factors, interpreted as a measure of a fund or portfolio managers style. While the model is mo st frequently used to show an equity mutual funds style with reference to common style axes (such as large/small and value/growth), recent applications have extended the models utility to model more complex strategies, such as those employed by hedge funds. (17) RISK PARITY The risk parity approach to portfolio asset allocation focuses on the amount of risk in each component rather than the specific dollar amounts invested in each component. In other words, risk parity focuses not on the allocation of capital (like traditional allocation models), but on the allocation of risk. Risk parity considers four different components: equities, credit, interest rates and commodities, and attempts to spread risk evenly across the asset classes. The goal of risk parity investing is to earn the same level of return with less volatility and risk, or to realize better returns with an equal amount of risk and volatility (versus traditional asset allocation strategies). (18) RISK-RETURN SPECTRUM The risk-return spectrum (also called the risk-return tradeoff) is the relationship between the amount of return gained on an investment and the amount of risk undertaken in that investment. The more return sought, the more risk that must be undertaken. (19) ROY'S SAFETY-FIRST CRITERION An approach to investment decisions that sets a minimum required return for a given level of risk. The Roy's safety-first criterion allows portfolios to be compared based on the probability that their returns will fall below this minimum desired threshold. It is calculated by subtracting the minimum desired return from the expected return of the portfolio and dividing the result by the standard deviation of portfolio returns. The optimal portfolio will be the one that minimizes the probability that the portfolio's return will fall below a threshold level. (20) VANNAVOLGA PRICING The vanna-volga (VV) method is an empirical procedure that can be used to infer an implied-volatility smile from three available quotes for a given maturity.1 It is based on the construction of locally replicating portfolios whose associated hedging costs are added to corresponding Black-Scholes (BS) prices to produce smile-consistent values. Besides being intuitive and easy to implement, this procedure has a clear financial interpretation, which further supports its use in practice.