Brief Review on Asset Selection and Portfolio Construction: Diversification, Risk and Return ()
ABSTRACT
This paper covers the rationale behind Modern Portfolio Theory and discusses
the assumptions of the Capital Asset Pricing Model. The investor’s preference regarding
financial instruments, expected return and level of risk are essential to determining
the composition of the portfolio. The practice of diversification provides a solution
by, the allocation of wealth into selected securities which cumulatively offer,
a portfolio that produces a desirable return with minimal variance. Taking into
account the investor’s level of risk aversion, allows that efficient diversified
portfolio to maximize his utility. The key parameter of portfolio construction,
denominated by the Greek letter beta, is systematic risk which is undiversifiable.
Estimating the efficient diversified portfolio’s performance is dependent on that
single coefficient. The risk-return trade off relationship derived from beta, provides
the framework for the pricing of assets held
in competitive markets. An empirical study illustrating diversification,
risk preference and asset pricing provides practical assessment of the concepts
developed in the paper.
Share and Cite:
Napon, J. (2023) Brief Review on Asset Selection and Portfolio Construction: Diversification, Risk and Return.
American Journal of Industrial and Business Management,
13, 1335-1352. doi:
10.4236/ajibm.2023.1311074.
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