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Ebook Fundamentals of investments valuation and management 5th edition): Part 2

(BQ) Part 2 book "Fundamentals of investments valuation and management" has contents: Diversification and risky asset allocation, performance evaluationand risk management, futures contracts, stock options, option valuation, corporate bonds, government bonds,.and other contents. | To download more slides, ebooks, solution manual, and test bank, visit http://downloadslide.blogspot.com CHAPTER 11 Diversification and Risky Asset Allocation “It is the part of a wise man not to venture all his eggs in one basket.” –Miguel de Cervantes Intuitively, we all know that diversification is important for managing investment risk. But how exactly does diversification work, and how can we be sure we have an efficiently diversified portfolio? Insightful answers can be gleaned from the modern theory of diversification and asset allocation. ■ Learning Objectives To get the most out of this chapter, spread your study time across: 1. How to calculate expected returns and variances for a security. 2. How to calculate expected returns and variances for a portfolio. 3. The importance of portfolio diversification. 4. The efficient frontier and importance of asset allocation. In this chapter, we examine the role of diversification and asset allocation in investing. Most of us have a strong sense that diversification is important. After all, Don Cervantes’s advice against “putting all your eggs in one basket” has become a bit of folk wisdom that seems to have stood the test of time quite well. Even so, the importance of diversification has not always been well understood. Diversification is important because portfolios with many investments usually produce a more consistent and stable total return than portfolios with just one investment. When you own many stocks, even if some of them decline in price, others are likely to increase in price (or stay at the same price). You might be thinking that a portfolio with only one investment could do very well if you pick the right solitary investment. Indeed, had you decided to hold only Dell stock during the 1990s, your portfolio would have been very profitable. However, which single investment do you make today that will be very profitable in the future? That’s the problem. If you pick the wrong one, you could get wiped out. Knowing