introduction of portfolio management

PORTFOLIO MANAGEMENT IN BANK

INTRODUCTION OF PORTFOLIO MANAGEMENT

Most investors leave the more technical aspects of portfolio management to their financial

consultants. However, this need not be the case. The average educated person can certainly gain a

grasp of the topic sufficient enough to help make his or her own investment decisions. The key to

learning is gaining the knowledge and then practice applying it to your own portfolio in small

amounts until you feel confident enough to manage it completely on your own. Here, we will

briefly describe some of the concepts behind portfolio theory as well as some general techniques

applied by portfolio managers. There are many good books that can give more in depth information

if you feel this is something you would like to know more about. In this article, we will present the

basic overview and ingredients of the concepts, process and tools of portfolio management. Every

portfolio management task should begin with a well defined aim, and looking at the aim of the

portfolio, the investors take a call whether they wish to invest in the portfolio or not. So basically,

the aim and objective of a portfolio management scheme is very important. Portfolio management

has been acknowledged by the project management community as the coordinated management of

portfolio components to achieve specific organizational objectives. It is a technique for optimizing

the organizational returns from project investments by improving the alignment of projects with

strategy and ensuring resource sufficiency. It aims to optimize the outcomes from project

investment across a portfolio and it is also regarded as the governance method for selection and

prioritization of projects or programs. Organizations that do not align their project portfolio with

organizational strategies and governance will tend to increase the risks of running projects that are

low priority initiatives. As a result, there will be critical resource shortages, and investments will not

be optimised. Therefore, application of the techniques of portfolio management within the context

of organizational governance provides reasonable assurance that the organizational strategy can be

achieved. Portfolio management can be seen as providing governance structures adopted to

minimize the overall costs in converting ‘‘input’’ to ‘‘output’’ through projects. The discussion will

consider how these factors vary across investors for various types of institutional as well as

individual investors. Asset allocation decisions and their implications are also important parameters

for an investor to decide whether to put his hard earned money into these portfolio schemes or not.

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PORTFOLIO MANAGEMENT DECISIONSThe first important facet of portfolio management is understanding the two main decisions, which

are related but completely separate for purposes of practicality. These two decisions are

1) Broad-based asset allocation and

2) Specific security selection

The most important thing an investor can do is go through the in-depth process of determining a

portfolio asset mix at the very onset of each year and again anytime there is a significant change to

their portfolio. It is only after this mix is determined that the process of choosing individual

investments should be made. Asset classes are by far a bigger factor in overall performance than

individual security selection as time invested increases. Or to put this in a more pragmatic way, it

doesn’t matter in a 10-year period of time which stock you chose as much as it matters that you

chose stock. This doesn’t mean an individual security can’t make a difference. It just means that it

becomes less important over a period of five years or so since all securities of a given class tend to

move toward an average performance which balances out extreme movements in specific periods of

time.

Another important facet of portfolio management is that one makes analytical decisions and not

make decisions based on hunches or emotion. This kind of pragmatic and analytical approach will

keep the average investor from making decisions to move money completely in or out of a security

or an asset class based upon the latest market rumors or the five o’clock news. Regardless of what

insight we feel inclined to follow, the numbers and the data of past performance gives us clear

indications that moving in and out of asset classes or individual securities during adverse periods

hurts more than it helps in the long run. And if a decision is made to divest out of a specific

security, it is always advised to dollar-cost average out of the investment in the same manner that

one should have dollar-cost averaged “in”.

Dollar cost averaging is a technique by which an investor divides the given investment over a

period of time and invests that amount on a regular basis as opposed to buying in all at once. This

technique is covered in more detail in a previous article.

The simple concepts above can help you to begin making decisions like a professional. Of course

there are many other aspects of portfolio management that go in depth into both of the above

investment decisions. Look for those more detailed articles in our investing learning section.

Information is for educational and informational purposes only and is not be interpreted as

financial advice. This does not represent a recommendation to buy, sell, or hold any security.

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BENEFITS OF PORTFOLIO MANAGEMENT

There is large number of benefits of Portfolio Management that can provide high value returns in

case it is performed on regular basis and implemented properly. There are many companies that

aimed to utilize their management efforts on balanced project portfolio for achieving optimal

performance and returns for the entire portfolio.

1. Maximize overall returns

The proper portfolio management ensures the proper mix of projects for achieving the maximum

overall returns. The project portfolio comprises of projects that provide values that differ widely

from each other. The projects in the portfolio vary in terms of following factors.

· Short- and long-term benefit

· Synergy with corporate goals

· Level of investment

· Anticipated payback

By considering all these factors, PPM focuses on optimization of the returns of the entire portfolio

by doing the following activities.

· Executing the most value-producing projects

· Directing the funds towards worthy initiatives

· Eliminating the redundancies between projects

· Saving time and costs

2. Balancing the Risks posed by Projects

The PPM involves the balancing of the risks posed by the projects in the portfolio. The companies

should evaluate and balance the projects’ risks in their portfolios for minimizing the risks and

maximizing the returns by diversifying portfolio holdings.

A traditional portfolio may minimize the risk and protect principal; however it also limits the

prospective returns. On the contrary, the hard-line project portfolio may provide greater chances of

good returns however it also poses considerably higher risk of failure or loss. PPM balances the

risks with potential returns by diversifying the project portfolio of the companies.

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3. Optimal Allocation of Resources

The resources are optimally allocated among various projects of the portfolio. As the resources are

really limited, all the projects should compete with each other for resources. PPM involves

measuring, comparing, and prioritizing the projects in order to classify and implement the most

valuable projects only. The conflicts between the projects for resources are resolved by the high

level management. The skill sets required for each project and ideal source of these resources are

determined by incorporating formal sourcing strategies.

4. Correction of Performance problems

The performance problems are corrected prior to their development in major issues. Although, PPM

cannot completely get rid of performance crisis, however it assists in addressing the performance

issues early. The PPM involves identification, escalation and addressing of any issues related to

execution and helps in keeping the progress of projects on track.

Aligning projects according to business goals

PPM ensures that projects remain aligned to the business goals during their execution by

performing following activities.

· Management oversight and monitoring throughout the project

· Standard communication and coordination

· Regular course correction for checking the project drifts

· Redirecting projects for maintaining alignment and changing business objectives

5. Executive level Project Oversight

Executives are involved for prioritizing and over sighting the project responsibilities. This ensures

that projects receive the required support and they can be completed successfully. Executives have

the required business acumen and they can align project by using various business strategies.

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BASIC CONCEPTS AND COMPONENTS FOR PORTFOLIO

MANAGEMENT

Now that we understand some of the basic dynamics and inherent challenges organizations face in

executing a business strategy via supporting initiatives, let's look at some basic concepts and

components of portfolio management practices. The portfolio First, we can now introduce a

definition of portfolio that relates more directly to the context of our preceding discussion. In the

IBM view, a portfolio is: one of a number of mechanisms, constructed to actualize significant

elements in the Enterprise Business Strategy.

It contains a selected, approved, and continuously evolving, collection of Initiatives which are

aligned with the organizing element of the Portfolio, and, which contribute to the achievement of

goals or goal components identified in the Enterprise Business Strategy. The basis for constructing

a portfolio should reflect the enterprise's particular needs. For example, you might choose to build a

portfolio around initiatives for a specific product, business segment, or separate business unit within

a multinational organization.

The portfolio structure

As we noted earlier, a portfolio structure identifies and contains a number of portfolios. This

structure, like the portfolios within it, should align with significant planning and results boundaries,

and with business components. If you have a product-oriented portfolio structure, for example, then

you would have a separate portfolio for each major product or product group. Each portfolio would

contain all the initiatives that help that particular product or product group contribute to the success

of the enterprise business strategy.

The portfolio manager

This is a new role for organizations that embrace a portfolio management approach. A portfolio

manager is responsible for continuing oversight of the contents within a portfolio. If you have

several portfolios within your portfolio structure, then you will likely need a portfolio manager for

each one.

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PORTFOLIO MANAGEMENT IN BANKThe exact range of responsibilities (and authority) will vary from one organization to another,1 but

the basics are as follows:

One portfolio manager oversees one portfolio.

The portfolio manager provides day-to-day oversight.

The portfolio manager periodically reviews the performance of, and conformance to expectations

for, initiatives within the portfolio.

The portfolio manager ensures that data is collected and analyzed about each of the initiatives in the

portfolio.

The portfolio manager enables periodic decision making about the future direction of individual

initiatives.

Portfolio reviews and decision making

As initiatives are executed, the organization should conduct periodic reviews of actual (versus

planned) performance and conformance to original expectations.

Typically, organization managers specify the frequency and contents for these periodic reviews, and

individual portfolio managers oversee their planning and execution. The reviews should be multi-

dimensional, including both tactical elements (e.g., adherence to plan, budget, and resource

allocation) and strategic elements (e.g., support for business strategy goals and delivery of expected

organizational benefits).

A significant aspect of oversight is setting multiple decision points for each initiative, so that

managers can periodically evaluate data and decide whether to continue the work. These

"continue/change/discontinue" decisions should be driven by an understanding (developed via the

periodic reviews) of a given initiative's continuing value, expected benefits, and strategic

contribution. Making these decisions at multiple points in the initiative's lifecycle helps to ensure

that managers will continually examine and assess changing internal and external circumstances,

needs, and performance.

Governance

Implementing portfolio management practices in an organization is a transformation effort that

typically involves developing new capabilities to address new work efforts, defining (and filling)

new roles to identify portfolios (collections of work to be done), and delineating boundaries among

work efforts and collections.

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PORTFOLIO MANAGEMENT IN BANKImplementing portfolio management also requires creating a structure to provide planning,

continuing direction, and oversight and control for all portfolios and the initiatives they encompass.

That is where the notion of governance comes into play. The IBM view of governance is:

An abstract, collective term that defines and contains a framework for organization, exercise of

control and oversight, and decision-making authority, and within which actions and activities are

legitimately and properly executed; together with the definition of the functions, the roles, and the

responsibilities of those who exercise this oversight and decision-making.

Portfolio management governance involves multiple dimensions, including:

Defining and maintaining an enterprise business strategy.

Defining and maintaining a portfolio structure containing all of the organization's initiatives

(programs, projects, etc.).

Reviewing and approving business cases that propose the creation of new initiatives.

Providing oversight, control, and decision-making for all ongoing initiatives.

Ownership of portfolios and their contents.

Each of these dimensions requires an owner -- either an individual or a collective -- to develop and

approve plans, continuously adjust direction, and exercise control through periodic assessment and

review of conformance to expectations.

A good governance structure decomposes both the types of work and the authority to plan and

oversee work. It defines individual and collective roles, and links them to an authority scheme.

Policies that are collectively developed and agreed upon provide a framework for the exercise of

governance.

The complexities of governance structures extend well beyond the scope of this article. Many

organizations turn to experts for help in this area because it is so critical to the success of any

business transformation effort that encompasses portfolio management. For now, suffice it to say

that it is worth investing time and effort to create a sound and flexible governance structure before

you attempt to implement portfolio management practices.

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PORTFOLIO MANAGEMENT ESSENTIALS

Every practical discipline is based on a collection of fundamental concepts that people have

identified and proven (and sometimes refined or discarded) through continuous application. These

concepts are useful until they become obsolete, supplanted by newer and more effective ideas.

For example, in Roman times, engineers discovered that if the upstream supports of a bridge were

shaped to offer little resistance to the current of a stream or river, they would last longer. They

applied this principle all across the Roman Empire. Then, in the Middle Ages, engineers discovered

that such supports would last even longer if their downstream side was also shaped to offer little

resistance to the current. So that became the new standard for bridge construction.

Portfolio management, like bridge-building, is a discipline, and a number of authors and

practitioners have documented fundamental ideas about its exercise. Recently, based on our

experiences with clients who have implemented portfolio management practices and on our

research into the discipline, we have started to shape an IBM view of fundamental ideas around

portfolio management. We are beginning to express this view as a collection of "essentials" that are,

in turn, grouped around a small collection of portfolio management themes.

For example, one of these themes is initiative value contribution. It suggests that the value of an

initiative (i.e., a program or project) should be estimated and approved in order to start work, and

then assessed periodically on the basis of the initiative's contribution to the goals and goal

components in the enterprise business strategy. These assessments determine (in part) whether the

initiative warrants continued support.

This theme encompasses the notion that initiative value changes over time. When an initiative is in

the proposal stage, it is possible to quantify an anticipated value contribution. On this basis (in part)

the proposed initiative becomes an approved initiative.

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NEED FOR PORTFOLIO MANAGEMENT

1. Portfolio management presents the best investment plan to the individuals as per their

income, budget, age and ability to undertake risks.

2. Portfolio management minimizes the risks involved in investing and also increases the

chance of making profits.

3. Portfolio managers understand the client’s financial needs and suggest the best and unique

investment policy for them with minimum risks involved.

4. Portfolio management enables the portfolio managers to provide customized investment

solutions to clients as per their needs and requirements.

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TYPES OF PORTFOLIO MANAGEMENT

Portfolio Management is further of the following types:

1 Active Portfolio Management:

As the name suggests, in an active portfolio management service, the portfolio managers

are actively involved in buying and selling of securities to ensure maximum profits to

individuals.

2 Passive Portfolio Management:

In a passive portfolio management, the portfolio manager deals with a fixed portfolio

designed to match the current market scenario.

3 Discretionary Portfolio management services:

In Discretionary portfolio management services, an individual authorizes a portfolio

manager to take care of his financial needs on his behalf. The individual issues money to

the portfolio manager who in turn takes care of all his investment needs, paper work,

documentation, filing and so on. In discretionary portfolio management, the portfolio

manager has full rights to take decisions on his client’s behalf.

4 Non-Discretionary Portfolio management services:

In non discretionary portfolio management services, the portfolio manager can merely advise

the client what is good and bad for him but the client reserves full right to take his own

decisions.

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WHY CHOOSE PORTFOLIO MANAGEMENT?

Portfolio management and what it means to you

Portfolio Management is a broad term that refers to the process of determining the structure and

components of an investment portfolio based on a series of criteria specific to a set of individual

circumstances and requirements.

In a professional context, for example with a mutual fund, portfolio management rests in the hands

of a portfolio manager. You might have heard the terms “buy side” and "sell side." A portfolio

manager for a mutual fund or hedge fund sits on the buy side of the market, while a retail broker or

research analyst working for a brokerage resides on the "sell side."

Portfolio management is no different for you, as an individual investor. It just generally operates on

a smaller level. The goal of portfolio management is to assure that an investment portfolio's

individual components are allocated in a manner that allows the totality of it to be balanced and

structured in a manner that meets the investor's goals and risk tolerance.

For the purpose of this article, your portfolio is the totality of your liquid assets, which means

money that you hold in cash, in fixed income securities, in individual stocks (or equities, as they are

called), in insurance annuities (or trusts) and stock funds.

Within these very broad categories there are many subsets of assets – for example, fixed income

products include mutual funds, highly-rated corporate debt, distressed debt and more. Stocks

include everything from domestic small- to mid-caps, to constituents of the large-cap S&P 500

index, to equities in emerging markets.

The prudent allocation of your capital among these many options sits at the heart of a personalized

and effective portfolio management strategy.

As you can imagine, there are many factors that go into creating the right strategy for you. Some are

personal – your income, your risk tolerance, your family situation and period to retirement. Some

are external – for example, what you and/or your financial advisor think about the direction of the

market. If you believe that the market is headed lower over a certain period, you’ll likely move

more assets into cash or adopt a hedging strategy.

Additionally, illiquid assets – for example, real estate, fine art, antiques and jewelry - are part of a

portfolio as well, and should be considered in a portfolio management strategy. For example, if you

have a lot of money in speculative real estate, then you’ll may want your stock portfolio to be on the

conservative side.

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PORTFOLIO MANAGEMENT IN BANKThere are many options for individuals to consider toward finding the correct portfolio management

strategy for them. While some hire a single financial advisor to manage everything for them, we’ve

recently seen a trend away from that and towards a more blended, or hybrid approach. Many

investors don’t want to put all their eggs in one basket, and are looking to achieve portfolio

diversification not just within the portfolio itself, but also with regard to the management of the

overall portfolio.

One example of this move to diversity in personal portfolio management can be found in what we

offer at Covestor. We make a collection of expert money managers from around the world available

in a single place. Investors looking to bring new ideas into their portfolios can find a manager who

is best suited to meet their financial goals, based on investment strategy and risk tolerance.

It’s important for investors to remember that their portfolio needs to be watched and monitored at

all times; personal circumstances change, the circumstances of individual companies within their

portfolios change, and the external market conditions are always in flux as well.

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SEVEN ESSENTIAL STEPS IN PORTFOLIO MANAGEMENT

What skills does an analyst need to become a portfolio manager? No doubt this question is

something that is in the back of most analysts’ minds. It popped back into my mind at the CFA

Institute China Investment Conference earlier this month in Shanghai.

“Even if you are an excellent financial analyst, this alone is insufficient to make you a successful

fund manager,” Dato’ Cheah Cheng Hye, chairman and co-chief investment officer of Value

Partners, an asset management firm headquartered in Hong Kong, said at the conference. He went

on to talk about the seven steps aspiring portfolio managers must learn to master. Starting out as a

financial journalist in Hong Kong in the 1970s, he later joined the asset management industry as an

analyst and eventually co-founded Value Partners in the 1990s.

Having worked both as an analyst and a portfolio manager myself, I found this list (which I

paraphrased below) rather handy.

1. Originating ideas.

Where does a portfolio manager start in his quest to beat the market? Fresh ideas.

There are more than 7,000 listed companies in the world, and a portfolio manager needs to know

where to look. Cheah prefers to look beyond the index and the obvious, especially the ones shopped

around by sell-side analysts. Admittedly, this could be hard in such cases as the internet bubble

period in the United States and the policy-driven market in China. Looking in the right direction,

however, has strategic importance in achieving the objective of adding alpha as well as improving

manager efficiency.

My take-away: Adding value starts from idea generation, the first step in the investment process.

This point is particularly important for value managers, who by default invest in companies that the

market shies away from.

2. Conducting research.

Research is not the exclusive realm of research analysts — far from it.

Cheah believes that managers need to be able to shorten the list from a few thousand companies to a

few hundred. These companies are then ranked and analyzed. He focuses on finding the right

business run by the right people that can be bought at the right price. As a value manager, Cheah

adopts a bottom-up approach to research, building up knowledge about a firm from bits and pieces,

in addition to analyzing financial statements to get a holistic understanding.

Analysts and managers often perform fundamental analysis on these companies together to assess

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PORTFOLIO MANAGEMENT IN BANKtheir potentials. The difference, in my opinion, is that managers are responsible for the ranking and

analysis process and ensure that the investment philosophy is consistently carried out. Value

managers usually place more emphasis on such valuation variables as intrinsic value arrived at

using discount cash flow models or price multiples, whereas growth managers tend to put more

weight on sales and profit growth, pricing power, and market share, etc.

My take-away: Consistent investment results depend on discipline and not on serendipity. How to

rank the short-listed companies clearly reflects a manager’s investment philosophy.

3. Making decisions.

Cheah thinks decision making is tough. Investors are often better at investigating investment

opportunities than making investment decisions because they are afraid of making mistakes that

they’ll regret. (Behavioral finance lessons, anyone?) It is critical, however, for a portfolio manager

to be able to pull the trigger when presented with a killer opportunity. (Read a related post by my

colleague Jason Voss, CFA, on the topic.)

Making decisions is also hard because it requires that we project into the future based on past facts.

As much as we may hope otherwise, there is no way of knowing for sure whether any of our

projections will turn out to be accurate. Nobel Laureate Myron Scholes and I discussed this very

subject recently and we concluded: “It’s what makes investing fun.” Maybe so for the gifted few?

Even the talented complain that investing is a lonely business. The decision to buy or not to buy

often comes down to gut feeling and is often a close call, as many seasoned and successful

investment managers have told me over the years.

My take-away: Decision-making authority is the single most important distinction between an

analyst and a portfolio manager. The talented are particularly good at pulling the trigger although

the instinct does not come easy, even to them.

4. Structuring transactions.

There are many ways of investing in a company. Buying shares in the open market is only one of

them. Cheah emphasizes that portfolio managers need to invest in ways that benefit investors the

most. Given the firm’s size and the liquidity of some Asian markets, this is not surprising. Although

open markets remain the benchmark, buying directly from the company, where possible, could

make more sense. A manager needs to familiarize herself with the intricacies of these transactions,

including accounting, legal, and tax implications.

My take-away: Portfolio managers need to have a total return perspective to investing. This is

particularly important if you are managing an outsized portfolio or invest in alternatives.

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5. Executing transactions.

A portfolio manager also needs to work with traders and ensure that ideas become investments.

Traders are ultimately responsible for trading. Portfolio managers, however, need to have an

appreciation for how their investment decision may affect the market. In my days as a portfolio

manager, our traders were early pioneers in breaking trades into smaller ones and executing them on

electronic trading platforms to minimize price impact. Trading techniques and technologies have

progressed by leaps and bounds over the last decade. Electronic trading has become prevalent and is

no longer considered an edge. Still, not keeping up with the industry can cost investors dearly, not

to mention may introduce trading errors.

My take-away: Trading remains an area that affects portfolio performance and cannot be ignored.

6. Maintaining investments.

Adding an investment to the portfolio is not the end of the story. Cheah emphasizes that portfolio

managers need to continue paying attention to portfolio companies once initial investments are

made. This is a continuation of the research process.

I was struck by his choice of words. “Maintain” has much richer meanings than “monitor,” which

feels a bit cold-hearted, distant, or at least matter of fact. To maintain is to show affection and care,

which is the right attitude for portfolio managers to take toward their investments.

My take-away: Maintain, not monitor, your investments.

7. Exiting investments.

Conventional wisdom seems to hold that exiting an investment is almost more important than

entering one. And it could be right.

Chuck McQuaid, chief investment officer at Columbia Wanger Management, once joked, “We have

two [exit strategies]: selling too high and selling too low.” Cheah made the same point in a more

plain-spoken way: When it comes to selling, whether at a profit or loss, portfolio managers need to

make a quick decision and get it done.

If portfolio managers hesitate when they exit positions, they often run the risk of letting small losses

balloon into major headaches. Similarly, if portfolio managers do not lock in profits when they

should, it could be equally damaging to their performance.

My take-away: Don’t be afraid of selling too high or too low. Exit quickly once you’ve made the

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PORTFOLIO MANAGEMENT IN BANKdecision, especially when cutting losses.

This list of seven steps is obviously not rocket science. For me, it served as a handy refresher.

Aspiring analysts, are you ready to take on the challenge? Experienced portfolio managers, what

has been your secret sauce? Feel free to leave your comments below and share your thoughts with

us.

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PORTFOLIO MANAGEMENT OF A COMMERCIAL BANK

Read this article to learn about the portfolio management of a commercial bank: objectives and

theories:

The main aim of a commercial bank is to seek profit like any other institution. Its capacity to earn

profit depends upon its investment policy. Its investment policy, in turn, depends on the manner in

which it manages its investment portfolio.

Image Courtesy : kapruka.biz/Comm%20Corporate%20Logo%20Original%20Eng-new.JPG

Thus “commercial bank investment policy emerges from a straight forward application of the

theory of portfolio management to the particular circumstances of commercial bank.” Portfolio

management refers to the prudent management of a bank’s assets and liabilities in order to seek

some optimum combination of income or profit, liquidity, and safety.

When a bank operates, it acquires and disposes of income-earning assets. These assets plus the

bank’s cash make up what is known as its portfolio. A bank’s earning assets consist of (a) securities

issued by the central and state governments, local bodies and government institutions, and (b)

financial obligations, such as promissory notes, bills of exchange, etc. issues by firms. There

earning assets constitute between one- fourth and one-third of a commercial bank’s total assets.

Thus a bank’s earning assets are an important source of its income.

The manner in which banks manage their portfolios, that is acquiring and disposing of their earning

assets, can have important affects on the financial markets, on the borrowing and spending practices

of households and businesses, and on the economy as a whole.

We study the objective, principles and theories of portfolio management and essentials of a sound

banking system.

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OBJECTIVES OF PORTFOLIO MANAGEMENT

There are three main objectives of portfolio management which a wise bank follows: liquidity,

safety and income. The three objectives are opposed to each other. To achieve on the bank will have

to sacrifice the other objectives. For example, if the banks seek high profit, it may have to sacrifice

some safety and liquidity. If it seeks more safety and liquidity it may have to give up some income.

We analyze these objectives one by one in relation to the other objectives.

1. Liquidity:

A commercial bank needs a higher degree of liquidity in its assets. The liquidity of assets refers to

the ease and certainty with which it can be turned into cash. The liabilities of a bank are large in

relation to its assets because it holds a small proportion of its assets in cash. But its liabilities are

payable on demand at a short notice.Therefore, the bank must hold a sufficiently large proportion of

its assets in the form of cash and liquid assets for the purpose of profitability. If the bank keeps

liquidity the uppermost, its profit will below. On the other hands, if it ignores liquidity and aims at

earning more, It will be disastrous for it. Thus in managing its investment portfolio a bank must

strike a balance between the objectives of liquidity and profitability. The balance must be achieved

with a relatively high degree of safety. This is because banks are subject to a number of restrictions

that limit the size of earning assets they can acquire.The nature of conflict between liquidity and

profitability is illustrated in earning assets are taken on the horizontal axis and cash on the vertical

axis. CF is the investment possibility line which shows all combinations of cash and earning

assets.For instance, point A denotes a combination of OM of cash and OS of earning assets; and

point В shows ON of cash and ОТ of earning assets. Each bank seeks to obtain its optimum point

along the line CE which will be a combination of cash and earning assets so as to achieve the

highest possible level of earnings consistent with its liquidity and safety.Many types of assets are

available to a commercial bank with varying degrees of liquidity. The most liquid of assets is

money in cash. The next most liquid assets are deposits with the central bank, treasury bills and

other short-term bills issues by the central and state governments and large firms, and call loans to

other banks, firms, dealers and brokers in government securities.The less liquid assets are the

various types of loans to customers and investments in long term bonds and mortgages. Thus the

principle sources of liquidity of a bank are its borrowings from the other banks and the central bank

and from the sales of the assets.

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PORTFOLIO MANAGEMENT IN BANKBut the amount of liquidity which the bank can have depends on the availability and cost of

borrowings. If it can borrow large amounts at any time without difficulty at a low cost (interest

rate), it willhod very little liquid assets. But if it is uncertain to borrow funds or the cost of

borrowing is high, the bank will keep more liquid assets in its portfolio.

2. Safety:

A commercial bank always operates under conditions of uncertainty and risk. It is uncertain about

the amount and cost of funds it can acquire and about its income in the future. Moreover, it face two

types of risks. The first is the market risk which results from the decline in the prices of debt

obligations when the market rate of interest rises. The second is the risk by default where the bank

fears that the debtors are not likely to repay the principle and pay the interest in time. “This risk is

largely concentrated in customer loans, where banks have a special function to perform, and bank

loans to businesses and bank mortgage loans are among the high grade loans of these types.”In the

light of these risks, a commercial bank has to maintain the safety of its assets. It is also prohibited

by law to assume large risks because it is required to keep a high ration of its fixed liabilities to its

total assets with itself and also with the central bank in the form of cash. But if the bank follows the

safety principle strictly by holding only the safest assets it will not be able to create more credit.It

will thus lose customers to other banks and its income will also be very low. One the other hand, if

the bank takes too much risk, it may be highly harmful for it. Therefore, a commercial bank “must

estimate the amount of risks attached to the various types of available assets, compare estimated

risk differentials, consider both long-turn and short- run consequences, and strike a balance.”

3. Profitability:

One of the principle objectives of a bank is to earn more profit. It is essential for the purpose of

paying interest to depositors, wage to the staff, dividend to shareholders and meeting other

expenses. It cannot afford to hold a large amount of funds in cash for that will mean forgoing

income.

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THEORIES OF PORTFOLIO MANAGEMENT

There are apparent conflicts between the objectives of liquidity, safety and profitability relating to a

commercial bank. Economists have tried to resolve these conflicts by laying down certain theories

from time to time. These principles or theories, in fact, govern the distribution of assets keeping in

views these objectives. They have also come to be known as the theories of liquidity management

which are discussed as under.

1. The Real Bills Doctrine:

The real bills doctrine or the commercial loan theory states that a commercial bank should advance

only short-term self-liquidating productive loans to business firms. Self-liquidating loans are those

which are meant to finance the production, and movement of goods through the successive stages of

production, storage, transportation, and distribution.

When such goods are ultimately sold, the loans are considered to liquidate themselves

automatically. For instance, a loan give by the bank to a businessman to finance inventories would

be repaid out of the receipts from the sale of those very inventories, and the loan would be

automatically self-liquidated.

The theory states that when commercial banks make only short term self-liquidating productive

loans, the central bank, in turn, should only land to the banks on the security of such short-term

loans. This principle would ensure the proper degree of liquidity for each bank and the proper

money, supply for the whole economy.

The central bank was expected to increase or diminish bank reserves by rediscounting approved

loans. When business expanded and the needs of trade increased, banks were able to acquire

additional reserves by rediscounting bills with the central banks. When business fell and the needs

of trade declined, the volume of rediscounting of bills would fall, the supply of bank reserves and

the amount of bank credit and money would also contract.

It’s Merits:

Such short-term self-liquidating productive loans possess three advantages. First, they possess

liquidity that is why they liquidate themselves automatically. Second, since they mature in the short

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PORTFOLIO MANAGEMENT IN BANKrun and are for productive purposes, there is no risk of their running to bad debts. Third, being

productive such loans earn income for the banks.

Its demerits:

Despite these merits, the real bills doctrine suffers from certain defects.

1.First, if a bank refuses to grant a fresh loan till the old loan is repaid, the disappointed borrower

will have to reduce production which will adversely affect business activity. If all the banks follow

the same rule, this may lead to reduction in the money supply and price in the community. This

may, in turn, make it impossible for existing debtors to repay their loans in time.

2.Second, the doctrine assumes that loans are self-liquidating under normal economic conditions. If

there is depression, production and trade suffer and the debtor will not be able to repay the debt at

maturity.

3. Third, this doctrine neglects the fact that the liquidity of a bank depends on the sale ability of its

liquid assets and not on real trade bills. If a bank possesses a variety of assets like bills and

securities which can be readily should in the money and capital markets, it can ensure safety,

liquidity and profitability. Then the bank need not rely on maturities in time of trouble.

4. Fourth, the basic defect of the theory is that no loan is in itself automatically self-liquidating. A

loan to a retailer to purchase inventor is not self-liquidating if the inventories are not sold to

consumers and remain with the retailer. Thus a loan to be successful involves a third party, the

consumers in this case, besides the lender and the borrower.

5. Fifth, this theory is based on the “needs of trade” which is no longer accepted as an adequate

criterion for regulating this type of bank credit. If bank credit and money supply fluctuate on the

basis of the needs of trade, the central bank cannot prevent either spiraling recession or inflation.

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2. The Shift ability Theory:

The shift ability theory of bank liquidity was propounded by H.G. Moulton who asserted that if the

commercial banks maintain a substantial amount of assets that can be shifted on to the other banks

for cash without material loss in case of necessity, then there is no need to rely on maturities.

According to this view, an asset to be perfectly shift able must be immediately transferable without

capital loss when the need for liquidity arises. This is particularly applicable to short term market

investments, such as treasury bills and bills of exchange which can be immediately sold whenever it

is necessary to raise funds by banks. But in a general crisis when all banks are in need of liquidity,

the shift ability theory requires that all banks should possess such assets which can be shifted on to

the central bank which is the lender of the last resort.

This theory has certain elements of truth. Banks now accept sound assets which can be shifted on to

other banks. Shares and debentures of large companies are accepted as liquid assets along with

treasury bills and bills of exchange. This has encouraged term lending by banks.

it’s demerits:

But it has its weaknesses. First, mere shift ability of assets does not provide liquidity to the banking

system. It entirely depends upon the economic circumstances. Second, the shift ability theory

ignores the fact that in times of acute depression, the shares and debentures cannot be shifted on to

others by the banks. In such a situation, there are no buyers and all who possess them want to sell

them. Third, a single bank may have shift able assets in sufficient quantities but if it tries to sell

them when there is a run on the bank, it may adversely affect the entire banking system, fourth, If

all the banks simultaneously start shifting their assets, it would have disastrous effects on both the

lenders and borrowers.

3. The Anticipated Income Theory:

The anticipated income theory was developed by H.V. Prochanow in 1944 on the basis of the

practice of extending term loans by the US commercial banks. According to this theory, regardless

of the nature and character of a borrower’s business, the bank plans the liquidation of the term-loan

from the anticipated income of the borrower. A term-loan is for a period exceeding one year and

extending to less than five years.

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PORTFOLIO MANAGEMENT IN BANKIt is granted against the hypothecation of machinery, stock and even immovable property. The bank

puts restrictions on the financial activities of the borrower while granting this loan. At the time of

granting a loan, the bank takes into consideration not only the security but the anticipated earnings

of the borrower. Thus a loan by the bank gets repaid out of the future income of the borrower in

instalments, instead of in a lump sum at the maturity of the loan.

It’s Merits:

This theory is superior to the real bills doctrine and the shift ability theory because it fulfills the

three objectives of liquidity, safety and profitability. Liquidity is assured to the bank when the

borrower saves and repays the loan regularly in installments. It satisfies the safety principle because

the bank grants a loan not only on the basis of a good security but also on the ability of the borrower

to repay the loan. The bank can utilize its excess reserves in granting term-loan and is assured of a

regular income. Lastly, the term-loan is highly beneficial for the business community which gets

funds for medium-terms.

Its Demerits:

The theory of anticipated income is not free from a few defects.

1. Analyses Creditworthiness:

It is not a theory but simply a method to analyze a borrower’s creditworthiness. It gives the bank

criteria for evaluating the potential of a borrower to successfully repay a loan on- time.

2. Fails to Meet Emergency Cash Needs:

Repayment of loans in installments to the bank no doubt provides a regular stream of liquidity, but

they fail to meet emergency cash needs of the lender bank.

4. The Liabilities Management Theory:

This theory was developed in the 1960s. According to this theory, there is no need for banks to

grant self-liquidating loans and keep liquid assets because they can borrow reserve money in the

money market in case of need. A bank can acquire reserves by creating additional liabilities against

itself from different sources. These sources include the issuing of time certificates of deposit,

23

PORTFOLIO MANAGEMENT IN BANKborrowing from other commercial banks, borrowing from the central banks, raising of capital funds

by issuing shares, and by ploughing back of profits.

We discuss these sources of bank funds briefly.

(a) Time Certificates of Deposits:

These are the principle source of reserve money for a commercial bank in the USA. Time

certificates of deposits are of different maturities ranging from 90 days to less than 12 months. They

are negotiable in the money market. So a bank can have access to liquidity by selling them in the

money market. But there are two limitations.

First, if during a boom, the interest rate structure in the money market is higher than the ceiling rate

set by the central bank, time deposit certificates cannot be sold in the market. Second, they are not a

dependable source of funds for the commercial banks. Bigger commercial banks are at an advantage

in selling these certificates because they have large certificates which they can afford to sell at even

low interest rates. So the smaller banks are at a disadvantage in this respect.

(b) Borrowing from other Commercial Banks:

A bank may create additional liabilities by borrowing from other banks having excess reserves. But

such borrowings are only for a very short duration, for a day or week at the most. The interest rate

of such borrowings depends upon the prevailing rate in the money market. But borrowings from

other banks are only possible during normal economic conditions. In abnormal times, no bank can

afford to lend to others.

(c) Borrowing from the Central Bank:

Banks also create liabilities on themselves by borrowing from the central bank of the country. They

borrow to meet their liquidity needs for short term and by discounting bills from the central bank.

But such borrowings are relatively costlier than borrowings from other sources.

(d) Raising Capital Funds:

Commercial banks acquire funds by issuing fresh shares or debentures. But the availability of funds

through these sources depends on the amount of dividend or interest rate which the bank is prepared

24

PORTFOLIO MANAGEMENT IN BANKto pay. Usually the banks are not in a position to pay rates higher than paid by manufacturing and

trading companies. So they are not able to get sufficient funds from this sources.

(e) Plugging Back Profits:

Another source of liquid funds for a commercial bank is the ploughing back of its profits. But how

much it can get from this source will depend upon its rate of profit and its dividend policy. It is the

larger banks that can depend on this source rather than the smaller banks.

25


PORTFOLIO MANAGEMENT OF KOTK MAHINDRA

SECURITIES LIMITED

The Kotak Mahindra Group was born in 1985 as Kotak Capital Management Finance

Limited. Day Kotak, Sidney A. A. Pinto and Kotak & Company promoted this company.

Industrialists Harish Mahindra and Mahindra took astake in 1986, and that when the company

changed its name to Kotak Mahindra Finance Limited. Since then its been a steady and

confident journey to growth and success. Kotak Securities Ltd. is one of Indies largest

brokerage and securities distribution house in India. Over the years Kotak Securities has been

one of the leading investment broking houses catering to the needs of both institutional and

non-institutional investor categories with presence all over the country through franchisees

and co-ordinates. Kotak Securities Ltd. offers online and offline services based on well-

researched expertise and financial products to the non-institutional investors.

Kotak Securities Limited is t he world of Capital Markets where everything newsworthy

exists only in the present moment and where knowing the importance of timing, sentiments

and strategic forecasting makes the difference between profit and loss.

Kotak Securities Limited, a strategic joint venture between Kotak Mahindra Bank and

Goldman Sachs (holding 25% one of the world’s leading investment banks and brokerage

firms) is India’s leading stock broking house with a market share of 7 - 8 %.

Kotak Securities Limited is one of the larger players in distribution of IPOs - it was ranked

number One in 2003-04 as Book Running Lead Manager in public equity offerings by

PRIME Database. It has also won the “Best Equity House “Award from Finance Asia -April

2004.The Company has a full-fledged Research division involved in macroeconomicstudies,

Sectoral research and Company specific equity research combined witha strong and well

networked sales force which helps deliver current and up-to-date market information and

news. Kotak Securities Limited is also a depository participant with National Securities

Depository Limited (NSDL) and Central Depository Services Limited (CDSL)providing dual

benefit services wherein the investors can use the brokerage services of the Company for

executing the transactions and the depository services for settling them.

26


Kotak Securities has 122 branches servicing more than 1, 70,000 customer and Coverage of

18 cities. Kotaksecurities.com, the online division of Kotak Securities Limited offers Internet

Broking services and also online IPO and Mutual Fund Investments. Kotak Securities

Limited manages assets over 2500cores of Assets under Management (AUM).

Kotak securities provide portfolio Management Services, catering to the high end of the

market. Portfolio Management from Kotak Securities comes as an answer to those who

would like to grow exponentially on the crest of the stock market, with the backing of an

expert.

Kotak Securities Limited manages assets over Rs. 1700crores through its Portfolio

Management Services (PMS) servicing high net worth clients with large investible surplus

through its preferred client services in the mass affluent and wealth management segments.

The company has a full-fledged research division involved in Macro Economic studies,

Sectoral research and Company Specific Equity Research combined with a strong and well

networked sales force which helps deliver current and up to date market information and

news.

KOTAK SECURITIES RESEARCH CENTER

27


Kotak Securities Research Center is a special research cell where some of India’s finest

financial analysts bring you intensive research reports on how the stock market is faring,

when is the right time to invest, when to execute your order and more. KSL provides both

type of research reports.

Fundamental Research reports

a. Intraday calls

b. Special Reports

c. Market Mornings

d. Daily Market Brief

e. Sectoral Report

f. Stock Ideas

g. Derivatives Reports

h. Portfolio Advices

Technical Research reports

a. Weekly Technical Analysis Depending on what kind of investor you are, Kotak Securities

Ltd. (KSL) brings customers from fundamental or basic research and technical research. As

an investor with Kotak Securities, Customers get access to these research reports exclusively.

Customers get access to the following reports. Research process is given below.

PRODUCTS OFFERED BY KOTAK SECURITIES LIMITED

28


1. Portfolio Management Services [PMS]: KOTAK Securities is among the Largest private

client asset managers in the Country today with an equity asset base of around 1700crores

(US$ 400 million). Kotak clients include some of the most affluent families and high net

worth individuals in the Country and customer assets under management rival some of the

larger mutual funds in India.

2) Margin Trading Facility

3) Demat Account Facility

4) IPOs

5) Mutual Funds AWARDS

GRAB BY KOTAK SECURITIES LTD.

Prime Ranking Award (2003-04) - Largest Distributor of IPOs

Finance Asia Award (2004)- India’s best Equity House Finance Asia Award

(2005)-Best Broker in India

Euro money Award (2005)-Best Equities House in India

Finance Asia Award (2006) - Best Broker in India

Euro money Award (2006) - Best Provider of Portfolio Management in

Equities.

CONCLUSION

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From the above discussion it is clear that portfolio functioning is based on market risk, so one

can get the help from the professional portfolio manager or the Merchant banker if required

before investment because applicability of practical knowledge through technical analysis can

help an investor to reduce risk. In other words Security prices are determined by money

manager and home managers, students and strikers, doctors and dog catchers, lawyers and

landscapers, the wealthy and the wanting. This breadth of market participants guarantees an

element of unpredictability and excitement. If we were all totally logical and could separate

our emotions from our investment decisions then, the determination of price based on future

earnings would work magnificently. And since we would all have the same completely

logical expectations, price would only change when quarterly reports or relevant news was

released.

If price are based on investors’ expectations, then knowing what security should sell for

become less important than knowing what other investors expect it to sell for. “There are two

times of a man’s life when he should not speculate; when he can’t afford it and when he can”

– Mark Twin, 1897. A Casino make money on a roulette wheel, not by knowing what number

will come up next, but by slightly improving their odds with the addition of a “0” and “00”.

Yet many investors buy securities without attempting to control the odds. If we believe that

this dealings is not a ‘Gambling” we have to start up it with intelligent way.

WEBLIOGRAPHY

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www.google.com

www.yahoo.com

www.wikipedia.com

www.Kotaksecurities.com

31

http://www.wikipedia.com/

http://www.google.com/

introduction of portfolio management

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