Business Finance

Main Strategies in Portfolio Management

Portfolio management is the process of selecting, allocating and reviewing a group of investments to achieve the investor's risk–return objective. The main strategies are:

1. Active Strategy The manager continuously buys and sells securities, times the market and picks undervalued stocks to beat the market benchmark. It requires research, forecasting and frequent monitoring, and involves higher transaction costs and risk.

2. Passive Strategy The portfolio is built to mirror a market index (e.g., NEPSE index) and is held with minimal changes. It is also called a "buy and hold" or indexation strategy. It has low cost, low turnover and gives market-average return.

3. Core–Satellite Strategy A large, stable core (index funds or blue-chip shares) is combined with a small satellite portion of aggressive, high-growth picks. This balances safety with the chance of extra return.

4. Value Strategy Investing in shares that appear underpriced relative to their intrinsic worth (low P/E, high dividend yield) and holding them until the market corrects the price.

5. Growth Strategy Investing in companies with high earnings growth and reinvestment potential, accepting low dividends and higher volatility in exchange for capital appreciation.

6. Income Strategy Focusing on fixed-income securities and high-dividend shares to generate regular cash flow, suitable for retired or risk-averse investors.

7. Dollar-Cost Averaging (Systematic Investment) Investing a fixed amount at regular intervals regardless of price. It lowers the average cost per share and reduces timing risk.

8. Constant-Weighting / Rebalancing Strategy The target proportion of each asset (say 60% shares, 40% bonds) is restored periodically by selling the overperforming asset and buying the underperforming one. It enforces "sell high, buy low" discipline.

9. Immunization / Dedication Strategy Used mainly by institutions: assets are matched with liabilities so that interest-rate changes do not disturb the ability to meet future obligations.

Benefits of Portfolio Diversification

Diversification means spreading investment across different assets, sectors, industries and geographic markets whose returns do not move together. Its benefits are:

• Reduction of unsystematic (company-specific) risk without necessarily reducing expected return, because offsetting movements of securities cancel out.
• Smoother, more stable returns — losses in one asset are cushioned by gains in another.
• Better risk-adjusted performance (higher Sharpe ratio) than a single security.
• Protection against sector or economic shocks — a slump in one industry does not ruin the whole portfolio.
• Flexibility to match the investor's risk profile, time horizon and liquidity needs.

Example: An investor has Rs 10,00,000 and puts all of it in shares of a single hydropower company. If that company's profit falls and its share price drops 40%, the investor loses Rs 4,00,000. Instead, suppose the amount is spread as:

Net result = –1,20,000 + 45,000 + 20,000 + 15,000 = –Rs 40,000, i.e. a loss of only 4% instead of 40%. Thus diversification converted a heavy loss into a small, bearable one — the core benefit of portfolio management.