Portfolio of investments

An example from another arena often helps people in the pharmaceutical industry understand the concepts around dynamic modeling and risk assessment incorporating uncertainty. The petroleum industry has used these approaches for years to help evaluate the risks and rewards associated with a portfolio of investment opportunities. At a 10,000 ft view, the structure inherent in the petroleum industry can be depicted as shown in Figure 35.11. 

Another consideration is for the firm to seek an increase in investment diversity to reduce risks for the entire portfolio of investments, so as not to put all the eggs in... 

The following portfolio of investment projects has been proposed for a company for next year ... 

The undiversifiable, or systematic, risk is the risk the investor cannot eliminate through diversification of his or her portfolio of investments. Suppose, for example, that prescription drug sales were closely linked to the state of the economy, perhaps because high unemployment produces more people without health insurance. Then, investment in pharmaceutical R D would have a great deal of systematic risk because returns on R D would depend on the state of the economy as a whole, and investors cannot diversify away these economy wide risks. 

To assess the impact of changing yield spreads therefore, it is necessary to carry out a simulation on the effect of different yield curve assumptions. For instance, we may wish to analyse 1-year holding period returns on a portfolio of investment-grade corporate bonds, under an assumption of widening yield spreads. This might be an analysis of the effect on portfolio returns if the yield spread for triple-B-rated bonds widened by 20 basis points, in conjunction with a varying government bond yield. This requires an assessment of a different number of scenarios, in order to capture this interest-rate uncertainty. 

Before closing the deal your alternatives should also be considered. Some mutual funds have at times earned 12% annually. These are based on a portfolio of stocks and there is no guarantee that there will not be a loss instead of a profit. If 13,500 is invested at 12% per annum, after 7 years the value of the principal plus interest is 29,800. To request this amount from your roommate in return for financing his car would still be reasonable. Other alternatives would be municipal or government... 

The model is subject to the same set of constraints as the deterministic model, with 0i as the risk trade-off parameter (or simply termed the risk factor) associated with risk reduction for the expected profit. 0j is varied over the entire range of (0, oo) to generate a set of feasible decisions that have maximum return for a given level of risk, which is equivalent to the efficient frontier portfolios for investment applications. 

Erb, Harvey and Viscanta Expected Returns and Volatility in 135 Countries. The Journal of Portfolio Management, Spring 1996. Cf also by the same authors Political Risk. Economic Risk, and Financial Risk. Financial Analysts Journal, November/December 1995, and Do World Markets Still Serve as a Hedge The Journal of Investing, Fall 1995. 

A professional manager has the time, training, and temperament to manage your assets successfully—qualities you may not possess. A trained professional takes the emotionality out of investing, knows the appropriate investment vehicles to achieve your goals, and can manage risk within your portfolio by choosing the proper balance of investment choices. This service will cost from one to two percent of your account balance annually. 

As we transform the costs of iterations, we have to transform our investment profile. Being wealthy means you have more choices. If you have more choices, your values matter more. In the end you have a portfolio of iterations. How do we want to manage those iterations ... 

Markovitz HM (1959) Portfolio Selection Efficient diversification of investments. John Wiley Sons, New York et al. 

The parallel for a rapidly growing company is the need for investments in manufacturing, larger premises for administration and a broader portfolio of products. When personal maturity comes to the young person, it brings with it a steady income yet many dependants there is a need to consolidate investments and provide for the long term. On the other hand, for the mature public company there is no option to consolidate and still provide a nearly steady income. Only by continued growth can the company maintain or increase its value. This is the imperative under which most companies are run and is the stimulus for business development activities across the board. 

Failures cannot be avoided. The trick - as in the world of venture capital - is to manage the uncertainty and to build a portfolio of good prospects. And, as with venture capital, the starting point is a solid business case for the opportunities. It is important to ensure that the addressable market size and uptake are correctly estimated (by defining them narrowly enough) and that a sufficient budget is allowed for investments, in particular for market development and application development. 

This produced a list of strategic options different business models and value chain positions that would match the most attractive areas. These options were then assessed by a set of criteria that included economic value, feasibility, risk, investments, and fit with the overall strategy and portfolio of initiatives. To test the economic viability of individual products, specific business ideas related to single products/markets were written and pressure-tested. The final decision was made after extensive discussions and more than 80 interviews with experts. While such interviews are essential, it is also important to remain skeptical and avoid the common wisdom trap. It is too early to determine the financial success, but the company has already achieved alignment between the overall strategy, the level of investment, and the organizational setup. 

Patent exclusivity enables a company to recoup its research and development investment and make an appropriate profit. Once patents expire, generic competition greatly erodes sales, although generic competition is frequently delayed by the portfolio of patents usually created by a company. It will be apparent that because of the enormous costs of drug development and the need to recoup these costs, all drugs taken to the marketplace should have some form of patent protection, even if... 

Continuing on that theme, an industry representative added, You need to know you can make money, to which another industry representative replied, Eventually. And another said, While I don t know the future, the question is, what is the ideal portfolio, and where does hydrogen fit into my portfolio The investment is like the share of bonds in my retirement fund. ... 

A rounded innovation project portfolio should also be distributed according to degree of import (incremental, substantial, breakthrough). Obviously, the magnitude of investment, risk, and potential impact on profit increases as you move up the chain from incremental to breakthrough innovation. 

This is a series of events that occurs on a continuum, and the main characteristic is the internally generated cash flows that provide the wherewithal for R D investment to come from the portfolio of existing products. To provide the necessary cash flows, this portfolio must contain products that have a range of price-marginal manufacturing cost differentials. 

In order to survive in this intensified competitive environment, chemical companies have to specialize and concentrate on their core competencies. The limited capital and personnel resources of a company and the considerable expenditure for future investments which are necessary for a stable and promising competitive position do not permit an equal promotion of all the traditional business operations. Only by concentrating on the most promising operations in the portfolio of a chemical company will it be possible to deploy the limited resources in a targeted fashion in order to improve the company s competitive position. 

The risk that is accounted for in the opportunity cost of capital is different from these conventional notions about the risks of R D. Modern finance theory distinguishes between two different kinds of investor risk diversifiable risk and undiversifi-able risk (59). The wildcatting risks of drug R D are diversifiable the investor can invest in a large diversified portfolio of R D projects (or firms undertaking such projects) and obtain, on average, an expected dollar return that is very predictable,... 

The portfolio diversification need not occur within each individual company investors can just as easily hold a diverse portfolio of companies in the industry. Within-company diversification may be important for managers whose professional and financial futures may rest with their own firm s performance, however. To the extent that managers seek to diversity their company s investments for their own purposes, they are not representing the interests of the firm s owners. 

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