Theories of Portfolio Management

After determining where a client is and where she needs to go, the representative faces the delicate task of deciding how to get there. Like anyone on a journey, choosing the correct path between “Point A” and “Point B” can make the difference between getting there sooner than planned and not getting there at all. Likewise, choosing the right investments to move investors from the present to their future goals is both an art and a science that lies at the heart of the representative’s role.

Most professionals today rely on some version of modern portfolio theory (MPT) to guide their customers’ investment decisions. Under modern portfolio theory, investment professionals try to find a superior portfolio by systematically choosing a diversified set of investments in relationship to one another that maximizes returns and minimizes risks.

Prior to the development of modern portfolio theory, portfolio diversity was achieved somewhat haphazardly. Investors looked at the risks and rewards of particular stocks and picked securities that tended to move in different directions or at different rates in response to market risks.

Modern portfolio theory applies statistical theory and computer technology to find an optimal set of securities that maximizes a portfolio’