Book Description

Please note that the content of this book primarily consists of articles available from Wikipedia or other free sources online. Pages: 24. Chapters: Arbitrage pricing theory, Behavioral portfolio theory, Capital asset pricing model, Efficient frontier, Fama-French three-factor model, Low-volatility anomaly, Maslowian Portfolio Theory, Modern portfolio theory, Mutual fund separation theorem, Post-modern portfolio theory, Project portfolio management, Risk parity, Roy's safety-first criterion, Vanna-Volga pricing. Excerpt: Modern portfolio theory (MPT) is a theory of finance that attempts to maximize portfolio expected return for a given amount of portfolio risk, or equivalently minimize risk for a given level of expected return, by carefully choosing the proportions of various assets. Although MPT is widely used in practice in the financial industry and several of its creators won a Nobel memorial prize for the theory, in recent years the basic assumptions of MPT have been widely challenged by fields such as behavioral economics. MPT is a mathematical formulation of the concept of diversification in investing, with the aim of selecting a collection of investment assets that has collectively lower risk than any individual asset. This is possible, intuitively speaking, because different types of assets often change in value in opposite ways. For example, to the extent prices in the stock market move differently from prices in the bond market, a collection of both types of assets can in theory face lower overall risk than either individually. But diversification lowers risk even if assets' returns are not negatively correlated-indeed, even if they are positively correlated. More technically, MPT models an asset's return as a normally distributed function (or more generally as an elliptically distributed random variable), defines risk as the standard deviation of return, and models a portfolio as a weighted combination of assets, so that the return of a...