Age Factor Theory - A New Insight in Portfolio Construction


By

D. Siva Shanmugam
Faculty of Computer Applications
S. Siva Kumar
Faculty of Management
EBET Group of Institutions
Kangeyam
 


Portfolio construction deals with how to divide the investor wealth across some asset classes' in order to maximize the investor gain. In the last decade, many emerging and transition economies have started introducing diversified portfolio construction. The investors like Institutional investors and small Investors like common people are searching for a good opportunity to invest in various investment perspectives like Shares, Mutual Funds, Gold, Bonds, Bank, Post office  etc...Institutional investors have lot of data can easily take their investment decision. But the small investor can't do like that. This is because the small investor is unclear on how to analyze the investment perspective and also they don't know how to take decision during the market failures.

This study provides the suggestion for small investor about where to invest the money for higher returns as well as with minimal amount of risks in all the cases, whether market is in big boom or on recession. An important aspect to study is the migration of most of the speculative activity from one investment to another investment provides easier and high returns.

For the purpose of finding higher returns on investment with minimum risk three types of portfolio were constructed namely

1. Equal Weightage Method     2. Age Factor Theory      3. Percentage Allocation Method

For the purpose of portfolio construction assumed that 700000 has been invested by the investor in various areas on 1ST JAN, of every year and sell off his holding 31ST DEC of the same year. It also assumed the investor is keep on watching the market and the expenditure like entry, exit load, transaction charges and brokerage for purchase and sale of stock, commodities, currencies were also taken into the account.

EQUAL WEIGHTAGE METHOD

Equal weightage method assured to invest equal amount in all investment alternatives.

AGE FACTOR THEORY

Age is one of the important factors for any human being in portfolio construction .here the present age of the investor is taken as risk free investment to be risky area for investment. The above study takes the investor age to be 30,hence 30% of total investment to be invested  on safety side(bank deposits  & debentures). The remaining life of the investor is assured as 70, hence 70% of the total investment is invested under risk (shares, mutual funds, currencies, IPO, commodities).

PERCENTAGE ALLOCATION METHOD

Based on the returns given by equal weightage method the funds are allocated according to the higher order of returns if anyof the alternative is giving negative returns in equal weihgtage method. Then a minimum of 2% is allocated to that alternative to avoid loss of investment.

Secondary data Viz., Interest rates, Share prices, Mutual fund unit prices, Net Asset value , Currency prices on various dates, Bid price of Initial Public offers, Interest rates of Bonds and Debentures, Prices of Commodities like Gold, Silver, Copper were to collected for the period 2008 and 2009 (2 Years).

The selected investments for the portfolio construction taken for the study are,

* Bank Deposits – Indian Bank.
* Shares –ICICI, INFOSYS, L&T,  M&M, RELIANCE, SBI
* Mutual Fund – ICICI, HDFC, BIRLASUN LIFE, RELIANCE
* Currencies –.  DOLLAR, POUND, EURO, YEN
* Initial Public Offer
* Bonds and Debentures - TATA CAPITAL, SHRIRAM, L&T ,INDIAN HOTEL
* Commodities – Metals (Gold, Silver, Copper).

2008

 

          Equal

             Age

   Percentage

S.No

Alternatives

Principal

Capital gain

Principal

Capital Gain

Principal

Capital Gain

1

Bank Deposits

100000

9000

100145.71

9013.11

151865.97

13667.94

2

Shares

100000

-60520.01

14000

-8238.58

14000

-8238.58

3

Mutual Fund

100000

-40449.09

14000

-5662.87

14000

-5662.87

4

Currency

100000

19292.73

434000

83681.74

325545.49

62995.45

5

IPO

100000

-44892.76

14000

-6169.72

14000

-6169.72

6

Debentures

100000

9872.50

109854.29

10845.36

166588.53

16446.45

7

Commodities

100000

-23814.25

14000

-3478.85

14000

-3478.85

 

Total

700000

-131510.88

700000

79990.20

700000

69559.82

 

Contribution

-18.79

11.43

9.94


From the above table it is clear that in the year 2008, equal weightage method gives a negative growth followed by loss of principle investor. In the case of percentage method it tends to give a positive growth in the portfolio with a return of 9.94% where as our new method age factor portfolio construction gives highest return of 11.43%.

2009

 

          Equal

Age

Percentage

S.No

Alternatives

Principal

Capital gain

Principal

Capital Gain

Principal

Capital Gain

1

Bank Deposits

100000

6250

81407.97

5088

12256.41

766.03

2

Shares

100000

78778.05

112373.28

90238.80

154485.73

122452.56

3

Mutual Fund

100000

69684.14

99401.24

69266.99

136652.35

95225.14

4

Currency

100000

-2175.40

14000

-309.14

14000

-309.14

5

IPO

100000

119421.34

170349.07

203430.89

234188.24

280437.86

6

Debentures

100000

9872.50

128592.03

12695.25

19360.22

1911.34

7

Commodities

100000

65811.02

93876.41

61540.51

129057.06

84115.49

 

Total

700000

347641.64

700000

441951.30

700000

584599.27

 

Contribution

49.66

63.14

83.51


In the year 2009 it is again proved that age factor method tends to give more return than the equal weight age method with a return of 63.14% compared to 49.66%. However the percentage method of portfolio construction gives a return of 83.51%.

From the study, it is very clear that IPO, Stock market, Mutual Funds remains a good investment alternative for any investor . At the same time the investor should know the level of risk to be taken to safe guard the investment. The Age factor method gives a new scope for any investor to decide the amount of risk he can take. This gives a new insight in the area of portfolio construction. On the other hand any investor's aim is to safeguard the capital first rather than maximize the return. So investor has to make a blend of investment and risk on return.

REFERENCES

1. Shah, A. and Thomas, S., "Policy issues in the Indian securities market". July 2001.

2. Reddy, Y.V., "Developing Capital Markets in Emerging Economies: Issues and Indian Experience". Keynote address at the Asian Bond Conference at Bangkok, March 2002.

3. Fernandes, K. (2003). "Evaluating index fund implementation in India". Working paper, http://www.nseindia.com/content/research/Paper66.pdf.

4. Zakri Y. B. (2005), "Socially Responsible Investing and Portfolio Diversification". The Journal of Financial Research, 28, 1: 41-57.

5. Anand, S. and Murugaiah, V. (2006). "Analysis of Components of Investment Performance - An Empirical Study of Bonds in India". 10th Indian Institute of Capital Markets Conference. ICFAI: Hyderabad.

6. Agrawal D. (2007). "Measuring Performance of IPO investment". Prabhandan Tanikniqui, 1, 1: 43-52.

7. Guha, S. (2008). "Performance of Indian Equity Mutual Funds". The ICFAI Journal of Applied Finance, 14, 1: 49-81.

8. Security analysis and portfolio management – Punithavathy Pandian.

9. www.nseindia.com

10. www.amfiindia.com

11. www.forex.com

12. www.mcx.com

13. www.kitko.com

14. www.moneycontrol.com

15. www.indianbank.com

16. www.debtonnetindia.com
 


D. Siva Shanmugam
Faculty of Computer Applications
S. Siva Kumar
Faculty of Management
EBET Group of Institutions
Kangeyam
 

Source: E-mail September 16, 2010

          

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