PORTFOLIO PROJECT PART 3

SAMPLE 1- PORTFOLIO FINDINGS PAPER (STEP 3)

I. TABLE OF CONTENTS 1

II. INTRODUCTION 2

III. PORTFOLIO MANAGEMENT APPROACH 2

IV. PORTFOLIO CONSTRUCTION AND ANALYSIS 3

V. PORTFOLIO RISK AND RETURN ANALYSIS 4

VI. RESULTS AND IMPACT 4

VII. ANALYTICAL FINDINGS 5

VIII. RECOMMENDATIONS FOR FUTURE PORTFOLIO CONSTRUCTION AND MANAGEMENT 6

IX. SUMMARY 6

X. BIBLIOGRAPHY 7

I.INTRODUCTION: This report relays findings about my chosen passive investment approach, and about the construction and selection of securities for the portfolio. It is important to understand the various classes of investments, how they interact, and the risk-reward relationship among them: because the key to successful investing lies in limiting risk. Investments are financial commitments toward an expected profit, and higher-expected profit carries higher-expected risk. Once understood, the results can be measured and the positions rebalanced to continue the strategy. Analysis of current socio-economic forces reveals ideas for adapting and preparing for market shocks of diversifiable and systemic risks. The question is not whether we will encounter shocks, but instead how can we overcome them and keep our head above water. Debt investors receive a fixed claim against cash flows with a preset expected return of principal at maturity: (Bodie, Kane, & Marcus, 2010) of which exchange value diminishes as interest rates rise. Equity investors purchase a proportional ownership of income-generating assets forever: some with voting rights, although stockholders don’t participate in day-to-day operations, resulting in agency problems between management and owners.

In my opinion, a good mix of debt, equities and cash comprise a balanced portfolio. Although equity returns are volatile, they may bring higher returns over time, whereas debt provides a steady foundational return. Although profits are not guaranteed, debt and equity investors enjoy limited liability for organizational debts.

II.PORTFOLIO MANAGEMENT APPROACH: As a passive manager, I bought and held a highly-diversified portfolio without attempting to find mispriced securities, whereas active managers attempt to improve performance” (Bodie, Kane, & Marcus, 2010). I believe in efficient markets where security prices reflect broad-investor value from all available information. (Bodie, Kane, & Marcus, 2010) Once invested, I will use technology to place automatic pre-set triggers for buying and selling securities, to simplify management of the portfolio. , I utilized computer technology to place pre-set triggers to buy and sell securities automatically, so I do not have to watch the market.

I used the Top-Down Method approach to manage an asset allocation mix of 40% Debt, 50% Equities and 10% cash, while pursuing a passive-investment strategy with a $100,000 investment. Although I am risk averse, I engaged in short-term stock trading, enhanced by a well-diversified fund that mirrors the S&P500 collection of stocks. While holding liquid and ultra conservative money markets, T-bills and CDs over the short term (< 1 year), I will not purchase and ladder long-term bonds or CDs (> 1 year) until interest rates trade higher.

I manage the portfolio in the following fashion:

1. Weekday mornings: Watch CNN over breakfast to gain a global perspective.

2. Relax while focusing on projects and enjoying life, until I receive a trade alert that requires attention.

3. Weekends and holidays: Read Barron’s on Saturday mornings and enjoy life.

4. Quarterly: Review financial statements and analyze performance.

5. Semi-annually: Rebalance the portfolio following dividend and coupon payments.

6. Annually: Conduct an In-depth portfolio plan review with adjustments, while preparing tax returns.

III.PORTFOLIO CONSTRUCTION AND ANALYSIS: EQUITIES (25% INDEXES) : Index funds pool many stocks or bonds together for a broad and diversified investment opportunity, whereas derivative securities provide expected payoff opportunities based on the performance of a separate asset. While options provide the right to exercise a transaction, I decline to invest in them at all, or in obligatory futures contracts at this time. Results and analytical findings follow, along with my recommendations for future portfolio construction. EQUITIES (25% STOCKS): Because investing in index funds is an easy way to earn returns from a proportionate ownership of each stock that comprises it, I selected CLL CBOE S&P 500 Index for its diversity and broad-market success. Equities are residual claims of stock ownership with limited liability, where companies either pay dividend income to shareholders or they retain it to increase value. To increase potential returns, I chose to take additional risk to invest in the petro-energy sector that enjoys high-demand and low-supply conditions. I selected Chevron (CVX on the New York Stock Exchange). By using the Price to Earnings ratio (P/E) test, I found Chevron to have the highest Earnings/Share (EPS) 13.44, the highest dividend 3.24, and the highest PE ratio 8.06, among the top American NYSE companies in the sector. The 52-week price range was $86-$110: therefore, once positioned I set automatic buy and sell triggers at 5% within the 52-week range: Sell when the price reaches $99, and later buy when the price reaches $90.30. (E-trade.com) DEBT (40%) : Long-term bonds carry greater interest-rate risk than shorter terms (David, 2011); for this reason I restricted purchases to US T-bonds and bills only. Bond yields move inversely to interest rate changes. Ideally, we should purchase 10-30 year T-Bonds, with as little as $100, during times of high interest rates to enjoy high coupon income later when rates drop. With Futures, I’ll swap steady coupons for LIBOR income without selling the bond, when equities soar. When rates rise, I’ll add highly-rated general Muni Bonds to the long-term mix, to enjoy full tax-free income. CASH (10%): I purchased highly liquid short-term US government T-bills available in $100 increments, where earnings are free of local and state taxes. Rates are not favorable at this time for any long-term purchases of T-Bonds or Long-term Certificates of Deposit (CD). However, I purchased a 6-month Bank CD whose default is protected by FDIC insurance for up to $100,000 per account. (Bankrate.com) DERIVATIVES (0%) : Options, Forwards, Futures and Swaps are restricted for the portfolio this year, although Futures Swaps for LIBOR rates may become necessary to reduce interest-rate risk on my bond positions as interest rates rise. No futures contracts were purchased, although it will be advantageous to mitigate interest-rate risk by swapping coupon rates for variable London Interbank Offer Rates (LIBOR) with Futures Swaps next year.

IV.PORTFOLIO RISK AND RETURN ANALYSIS: For a passive investment strategy, I used the Investor Opportunity Set to identify the Capital Allocation line holding rates of return for my S&P500 risky position to my T-bill risk-free position. In the 1990s the S&P returned about 17%, although fund fees eroded the figure (The Motley Fool)I estimate the expected return for the S&P as 10%, and 1.5% for T-bills. By investing 100% in the S&P alone, my risk premium equals 10%. By diversifying the portfolio with 40% T-bills and 50% S&P, my risk is reduced to 1.25% as below:

E(rp) – rf = risk premium , then 10% - 1.5% = 8.5%, Then: (S&P) , 10% (X 0.50 S&P) - 1.5% (X 0.40 T-bill)=

5% - 3.75% = 1.25% risk premium is reduced for my complete portfolio

[Additionally, I will read Sharpe measures published on the e-trade site, where a higher Sharpe measure indicates a better reward per unit of volatility (Bodie, Kane, & Marcus, 2010) ]V.RESULTS AND IMPACT: Because decisions about my investment strategy were carefully conceived and formally planned, I found it was easy to resist the urge to invest more time and money on random opportunities. Although money may be left on the table, my commitment to avoiding irrational moves empowers me to have patience. Clearly, equities are becoming bullish, and I expect to add another stock to the mix by next month. The portfolio is very conservative, and I remind myself that my expectation is to outperform cash deposits and to mirror the S&P 500 index, yet my strategy includes picking individual stocks to keep the process fun. I am satisfied the plan is stable and am pleased with the results so far. My portfolio is easier to manage than I thought which requires simple scheduled tasks to monitor and evaluate its performance. Because coupon and dividend income is paid semi-annually, I only need rebalance the portfolio at that time, unless stock trades occur that require depositing surplus proceeds, rebalancing, and resetting triggers for the next round. Annually, I plan to engage in Future Swaps to increase bond income and to further mitigate risk.

VI.ANALYTICAL FINDINGS: I’ll analyze financial ratios using SEC docs on EDGAR to compare Chevron and other stocks against industries. When interest rates rise, I will shop CD and money market rates throughout Washington, DC, and will ladder them in addition to purchasing long term T-bonds. (EDGAR Online in partnership with Yahoo! Finance)

The following table shows detailed positioning of securities to match my asset allocations. Within each class, however, long-term positions were not purchased because interest rates are currently depressed. Including trading fees, the fully-invested portfolio returned $3,167 in profit by August 20/2012, while limiting volatility over the month of February. Coupon and dividend income is expected at the end of June.

PORTFOLIO REBALANCING: It is too early to make any rebalancing changes, as I am pleased with the current results of the portfolio. My triggers are set for the Chevron stock, and they have not been called into action yet. My profits are on paper only, but at some point I will take profits and move the surplus to open more CDs according to plan. Understandably, no dividends or coupon payments have been paid, and the political crisis with Iran is enhancing my profits by driving the price of petroleum higher every month in the U.S. Arbitrage opportunities are not a factor in this project, as I do not intend to take additional risk to find unusual returns, nor do I intend to spend much time managing the portfolio.

VII. RECOMMENDATIONS FOR FUTRE PORTFOLIO CONSTRUCTION AND MANAGEMENT: E-trade is not as flexible as I expected, and the investment selections are a bit limited, but their trading fees are very low and they offer a good electronic dashboard. Surprisingly, there are too many choices for investing in the S&P500, with varying prices and disparate results, although the CLL appears to be a great choice. CD and money market rates remain down and flat, although equities are beginning to boom. Although I am positioned to reap the same rewards as the S&P, I didn’t notice the potential of investing in the technology-heavy NASDAQ index, and I may add it to the mix next year. Mistakenly, I thought petroleum stocks moved in opposition to interest rates, and I see Chevron is not a good hedge for my bonds. Recently, I studied Hershey Company (HSY, New York Stock Exchange) and the confectioners’ industry to discover candy outperforms the S&P regularly, has a low barrier to entry and their products are virtually recession proof. (The Hershey Company) Next year, I will analyze industries to find recession-proof sectors to hedge diversifiable and systemic risks.

SUMMARY : The performance and stability of the portfolio is favorable, as electronic-trading triggers remain in place for stocks, and all positions cover the intended asset allocation mix. Monthly rebalancing is not required, and at least one other stock should be added next month to hedge future interest rate risk for my bonds. When interest rates rise, long-term positions will be purchased. The portfolio is very low in risk and I am well positioned to excel whether interest rates rise or not. Although there is no guarantee of future results, I expect to outperform the S&P 500 index. Intuitively, I will pursue green technologies and socially-responsible US stocks in the future I plan to conduct my own financial analysis by using SEC reports through EDGAR online, Yahoo!Finance. (EDGAR Online in partnership with Yahoo! Finance)

I expect to have fun succeeding in making money while keeping my head above water.

Bibligraphy Bankrate.com. (n.d.). Bankrate.com. Retrieved March 6, 2012, from http://www.bankrate.com/partners/sem/cd-rates.aspx?prods=13,14,19 Bodie, Z., Kane, A., & Marcus, A. J. (2010). Essentials of Investments (8th ed. ed.). New York: McGraw-Hill/ Irwin. David, F. R. (2011). Strategic Management: Concepts and Cases, 13th edition (13th ed.). New York: Prentice Hall. EDGAR Online in partnership with Yahoo! Finance. (n.d.). Retrieved January 22, 2012, from http://finance.yahoo.com/q/is?s=PFE+Income+Statement&annual E-trade.com. (n.d.). Retrieved March 6, 2012, from https://us.etrade.com/investing-trading/mutual-funds The Hershey Company. (n.d.). Corporate Social Responsibility Scorecard 2010. Retrieved February 11, 2012, from The Hershey Company: http://www.thehersheycompany.com/assets/pdfs/hersheycompany/scorecard2010.pdf

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