Report of FIN-5101: Modern Finance Theory Construction using... · Engineering BSRM Steels Limited...

Report of FIN-5101: Modern Finance Theory

Term Paper On

Portfo

lio C

on

structio

n u

sing M

icroso

ft Excel

Kawsar Ahmed Shiblu

Lecturer

Department of Finance

Faculty of Business Studies

Jagannath University, Dhaka

Sultan Ahmed Khan

Representative of the group

Epimetheus-I

BBA 3rd Batch


Faculty of Business Studies

Jagannath University, Dhaka.

Submitted By

Submitted To

Group Name: Epimetheus-I

Name of the members of the group:

Serial No: Name of the members of the group Roll Number

01 Sultan Ahmed Khan 091597

02 Md. Anik Mahmud 091636

03 Mohammad Mahmudul Hasan 091534

04 Sakhawat Hosain Chowdhury 091574

Group Representative: Sultan Ahmed Khan.

Contact : [email protected]

Web : epimetheus.yolasite.com

May 15, 2014

The Course Instructor

Kawser Ahmed Shiblu

Lecturer


Jagannath University, Dhaka.

Sub: Thanks giving letter to the respective faculty member.

Sir,

We are the student of Department of Finance (3rd batch) of Jagannath University, Dhaka &

also from the group named “Epimetheus-I”. We are very much enthusiastic about our

presentation. We are really happy to have such a presentation of challenging and interesting

like this presentation & also thanks to you for making us worthy for corporate. Our topic is

“Portfolio Construction using Microsoft Excel”. We have learned many things from this topic

which will help us in future to conduct as a finance official. There were some obstacles we

have faced at the time of collecting data about our topic. But we have overcome all the

obstacles by the endeavor effort by each member of our group and tried our best to give an

overview of our topic.

We the group “Epimetheus-I” tried our best to make this term paper impeccable, interesting,

informative and enjoyable by the help of electronic and print media in association with our

honorable teacher, mentor, counselor, instructor and advocate “Kawser Ahmed Shiblu”. We

are really grateful to him. We had limitations at the time preparing presentation. So mistakes

may occur in our demonstration of our presentation. We hope that, you will exempt our

mistakes.

Thanking in anticipation,

Yours Fidel,

Sultan Ahmed Khan

Group Representative,

Group-“Epimetheus-I”

BBA 3rd Batch


Jagannath University,Dhaka.

First of all we would like to thank the Almighty for giving us the strength, and the aptitude to

complete this report within due time. We are deeply indebted to our course teacher, mentor,

and counselor, Kawser Ahmed Shiblu for assigning us such an interesting topic named

“Portfolio Construction using Microsoft Excel”. We also express the depth of my

appreciation to our honorable course teacher for his suggestion and guidelines, which helped

us in completing this term paper.

Microsoft Excel is an intelligent and enormously user friendly software. Through this

software portfolio management and investment decision takes a new horizon for analysts.

Here we have constructed a Portfolio of complete market through Excel. Our objective of the

analysis is to obtain highest theta and minimum portfolio risk with a given rate of return.

To construct the portfolio we choose 10 companies from 10 different industries. A primary

data sheet has been formed with the stock prices and dividend of 60 months of the related

companies. Among the selected companies information we have constructed a portfolio of

optimum theta in both case of short sell market & without short sell market.

In the last section, how can investor minimize their risk among the selected companies with a

given portfolio under both scenario of short sell market & without short sell market is

identified. In case of investor given (preference) return, the impact of risk & theta is

positively remarkable. Comparing with the situation of equal investment in all the firm, it is

better to expect a rate which will guide to an optimum solution of higher theta prices along

with lower risk for the portfolio.

By solver function in Microsoft Excel we calculate Maximum theta without short sell, with

short sell and minimum Risk with short sell and without short sell. Then, risk with a given

return has been calculated with and without short sell. Every situation leads us to different

investment decision.

NAME Page no

Executive Summary

Chapter-1

Introduction 01

Rationale of the Report 01

Objective of the Report 01

Scope of the Report 02

Methodology 02

Limitations 02

Chapter -2

Portfolio 03

Factor Affecting portfolio 03

Portfolio Construction 05-16

Chapter -3 Findings of the Report 17

Chapter- 01

Introduction

The term portfolio refers to any collection of financial assets such as cash or stock. Portfolios

may be held by individual investors and/or managed by financial professionals, hedge funds,

banks and other financial institutions. It is a generally accepted principle that a portfolio is

designed according to the investor's risk tolerance, time frame and investment objectives.

In this term paper we tried to show how to construct an optimum portfolio for individual

investors or organizations using Microsoft Excel @2013. Microsoft excel is tremendously a

user friendly and intelligent software published by Microsoft. It’s very easy to use this

software interface.

Rationale of Report

The term paper is assigned by our course teacher Kawser Ahmed Shiblu as a part of our

“Modern Finance Theory” course. The topic of our report is “Portfolio Construction using

Microsoft Excel”. By conducting this report we can enhance our knowledge and skill to apply

various research methods in professional life on higher educational life by using Microsoft

Excel. The report has given us a chance to raise our quality in developing research instrument

and its applications. By doing so, we can boost our acceptability in job market and develop

our real life knowledge.

Objective of the Report

Primary objective

The main objective of the report is to know about the uses of Microsoft Excel module in real business world to construct optimal portfolio.

Secondary objective:

The report has some following objectives:-

The using of Microsoft Excel for investment purpose.

Maximizing the Theta for the portfolio.

Minimizing portfolio risk with given rate of return.

Scope

There were huge scopes to work in the area of this Report. Considering the dead line, and

exposure of the paper has been wide-ranging. The report “Portfolio Construction using

Microsoft Excel” has covered how to construct a portfolio & get optimum return by

minimizing the risk from the portfolio that includes different organization under different

industry using several period prices. It deals with the Portfolio Risk, Return & Optimum

Theta. By preparing this report, we got a chance to work on the one of best software interface

Microsoft Excel for constructing a portfolio.

Methodology

We have used the concept of the course, information of several companies per month stock

prices & dividend information published by Dhaka Stock Exchange (DSE).

Companies Uses for constructing portfolio.

Sector Company Sector Company

Banking Institutions Dutch-Bangla Bank Financial Institution Prime Finance & Invest

Engineering BSRM Steels Limited Food & Allied AMCL (Pran)

Fuel & Power Titas Gas Textile Apex Spinning.

Pharmaceuticals Glaxo SmithKline Cement Confidence Cement

IT Sector Intech Online Ltd. Ceramics Sector Shinepukur Ceramics Limited

Analysis of the data

The impact of Cash Dividend & Stock Dividend

Calculation of Return series & Mean return

Calculation for Theta

Calculation for Portfolio Standard

Impact of Short Sell.

Statistical Tools

We have used Microsoft Excel version 2013.

Sources of Data

Here the secondary sources of information were used. The secondary sources are:

Website of DSE

Raw data including stock price & dividend declaration date provided by course

instructor.

Limitations

Microsoft Excel is widely used software for different analysis using spate formulas. Among

these we have limited knowledge about those formulas as we have limited time to gather

regarding this.

Chapter- 02

Portfolio

The term portfolio refers to any set of collection of financial assets such as cash or stock.

Portfolios may be held by individual investors and/or managed by financial professionals,

hedge funds, banks and other financial institutions. It is a generally accepted principle that a

portfolio is designed according to the investor's risk tolerance, time frame and investment

objectives.

In our report we have constructed a market portfolio. We have gathered information of ten

sample companies from ten different industries. Our motive was to identify the suitable

investment opportunity among selected companies that focused on positive return & risk

minimization.

Factors Affecting Portfolio Construction

Portfolio is the set of collection of financial assets. The price of financial assets are affected

by several factors. Thus in a portfolio construction there lies some factors which affect

overall portfolio which is to be constructed for finding optimal investment opportunity by

maximizing theta and minimizing the portfolio risk of the investment set. The factors

affecting portfolio are:-

Dividend

Dividend is a distribution of a portion of a company's earnings, decided by the board of

directors, to a class of its shareholders. The dividend is most often quoted in terms of the

dollar amount each share receives (dividends per share). It can also be quoted in terms of a

percent of the current market price, referred to as dividend yield.

Dividend of the company is distributed among the shareholder under two types. That’s are:-

Stock Dividend

Cash Dividend.

Stock Dividend

Stock Dividend is a form of dividend payment made in the form of additional shares, rather

than a cash payout to the shareholders.

Cash Dividend

Money paid to stockholders, normally out of the corporation's current earnings or

accumulated profits.

Return Series

It's a series of returns that are calculated from prices of the stocks after adjusting the stock

dividend then summation with the cash dividend. The total then divided by the previous year

adjusted prices. For each year /month return constitute a return series.

Mean Return

In securities analysis, it is the expected value, or mean, of all the likely returns of investments

comprising a portfolio. It is also known as "expected return". It takes into account the risks

that face a portfolio and calculates the rate of return the investor can expect to get.

T-Bill Rate

A short-term negotiable debt obligation issued by the Bangladesh Bank and backed by its full

faith and credit, having a maturity of one year or less.

Variance

Variance measures how far a set of numbers is spread out. A small variance indicates that the

data points tend to be very close to the mean (expected value) and hence to each other, while

a high variance indicates that the data points are very spread out from the mean and from

each other.

Variance-Covariance Matrix

A covariance matrix is a matrix whose element in the i & j position is the covariance between

the ith and jth elements of a random vector.

Portfolio Return

The monetary return experienced by a holder of a portfolio. Portfolio returns can be

calculated on a daily or long-term basis to serve as a method of assessing a particular

investment strategy. Dividends and capital appreciation are the main components of portfolio

returns.

Portfolio Excess return

Investment returns from a security or portfolio that exceed a benchmark or index with a

similar level of risk. In another word, excess return is the excess amount found by subtracting

risk free return from mean return. When it comes from a portfolio it terms as portfolio excess

return.

Portfolio Standard Deviation

Portfolio standard deviation is the standard deviation of a portfolio of investments. It is a

measure of variability of the expected returns from a portfolio.

http://en.wikipedia.org/wiki/Matrix_(mathematics)

http://en.wikipedia.org/wiki/Covariance

Theta

A measure of the rate of excess return from per unit of risk. In case of portfolio excess return

treated as portfolio excess return and risk treated as portfolio standard deviation. Higher unit

indicates that investor will gain more for taking additional risk because per unit return is

higher and vice versa.

Weight

The percentage composition of a particular holding in a portfolio. It indicates where and how

much to invest in a companies under a portfolio to get optimum return from it.

Short Sell

The sale of a security that is not owned by the seller, or that the seller has borrowed. Short

selling is motivated by the belief that a security's price will decline, enabling it to be bought

back at a lower price to make a profit.

Portfolio Construction

Given data

We have worked on last five years data from 2009 to 2013. To develop this portfolio we have

chosen ten companies of interest from ten different industries. We have made the face of all

companies in to TK 10 by using stock split method. The face value of Intech Online Ltd,

Shinepukur Ceramics Limited was TK 10 from beginning.

Dividend information

This is the dividend information of selected companies. This includes Cash dividend & Stock

Dividend.

Cash dividend calculation

This is the calculation of cash amount from the dividend offer rate. The formula used in this

case is £ =C99*$C$72 where C99 is the periodic dividend rate & $C$72 is the face value of

the companies. In the excel Div (Tk) cell is the product of face value and dividend offer rate.

Price with Bonus share Adjustment

In this tab at first we have to find in which date the firm declared the stock dividend. Up to

that date we have no work in case of price adjustment because the market value is already set

by the investor before the dividend declaration date. After dividend declaration date price is

adjusted by using this formula £ ='Price Info Without Dividend'!E16*(1+Dividend!$D$6)

where 'Price Info Without Dividend'!E16’ is the before declaration price of the stock &

‘Dividend!$D$6’ is the dividend rate of that same period. For every declaration we have to

multiply (1+Dividend!$D$X) and onward.

Return Series

In this tab we have calculate the return series of the selected companies. To find out the

return series we have used this formula below for every cell.

£ =LN('Price With Bonus Share Adjust'!C9+Dividend!D75)/'Price With Bonus Share

Adjust'!C8

This formula includes all returns from the stock investment. After that we have calculated

mean return from the return series of the all selected companies. This tab also includes the T-

Bill rate of the present market which is considered as a risk free rate of the market. The T-Bill

rate is found from Bangladesh Bank & the rate consist 364 days rate.

The mean return of each company is calculated using the average formula of Excel. The

formula is as follows £ =AVERAGE (C9:C67) where C9:C67 means all return series of the

selected companies.

Weighted T-bill rate is calculated per year basis. In the year 2009 we’ve used data of eleven

months and find the weight by the following formula: £ =((E75/12)*11). But in the following

year we have used £ =((E76/12)*12). Because in the following years we have got return

through all the year whereas in the beginning period we have got only for eleven month. Here

assumed that first month is the investment period.

Average yearly risk free rate is calculated based on the formula of geometric mean. In this

report we have multiplied the weighted T-Bill rate of five years and used 4.91667x√ (roots).

Because we are working with 59 months. So, the formula is

£=((F75*F76*F77*F78*F79)^(1/4.91667))

Average monthly risk free rate is calculated simply dividing the average yearly risk free rate

by 12 months. The formula is:- £=(F80/12)

Maxi. Theta With Equal Weight

In this part we’ve tried to maximize theta by holding equal weights in each companies of the

portfolio. To maximize the theta at first we need to calculate the variance- covariance matrix.

For doing it we need to consider horizontal & vertical relation between/ among the

companies and construct a matrix.

£ =COVAR('Return Series'!$C$9:$C$67,'Return Series'!C9:C67)

In the formula bar we’ve written COVAR to develop covariance then we’ve selected all the

return of Dutch-Bangla Bank and fixed the data with F4 key as we need to find the

covariance with other companies. Then we’ve selected the data of Dutch-Bangla Bank and

press enter and we’ll get a value. Thus we’ll calculate covariance of each other firms.

For further calculation we we’ll bring mean return from immediate excel tab ‘Return Series’

by using formula £='Return Series'!C69 which is exactly same in figure as previous tab.

We’ll bring risk free return data from immediate excel tab. This data is fixed so we’ll use

following formula £='Return Series'!$F$81. This is the Average Month T-Bill rate (krf)

Excess Return is simply mean return minus risk free return of the given portfolio.

Portfolio Return is the multiplication of weights and mean return of the portfolio. As it is a

matrix multiplication. So we have used MMULT function after that we have selected all

weights denoted in horizontal and in array 2 of the function we’ll put all mean return. The

formula is as follows £=MMULT(D3:M3,O6:O15)

Like as portfolio return we have used weights and excess return to get portfolio excess return.

The formula is as follows £=MMULT(D3:M3,Q6:Q15)

Portfolio Variance measures how far a set of numbers is spread out. To find out this we have

used this formula £=MMULT(MMULT(D3:M3,D6:M15),N6:N15). Here we have conduct

two matrix multiplications. One is conducted to get riskiness or Variance of individual

companies another is conducted for portfolio with weights.

As standard deviation is the square root of variance. So to get the value of portfolio standard

we’ve used this formula £=SQRT(G22).

Theta is the excess return to standard deviation. So we’ve used £=(G21/G23) this formula to

get the value of theta. It measures return against risk associated with the portfolio.

The sum of weight is always 1. So we’ve used £=SUM(D3:M3) this formula to prove this.

Maxi. Theta Without SS

In this step we calculate maximum theta without short sell. To find out this we need to go on

the process given below:

Select theta and open Solver.

Fill the “Set target cell” with the cell no of Theta. Tick it to maximum.

Fill the “By changing Cells” with data of weight by selecting $D$3:$M$3.

Fill the “subject to the constraints” with two condition by pressing add as-

In the Cell reference we need to select the weight as $D$3:$M$3 then select

>= and then fill constraint with 0. It simplifies that there is no short sell

situation is happening here.

In the Cell reference we need to select the sum of weight as $G$25 then select

= and then fill constraint with 1.00. It represent sum of weights is equal to 1.

Then we will find Maximum theta with having required weight in the situation of no short

sell in the market.

Maxi. Theta With SS

In this step we calculate maximum theta with short sell. To find out this we need to go on the

process given below:

Select theta and open Solver.

Fill the “Set target cell” with the cell no of Theta. Tick it to maximum.


Fill the “subject to the constraints” with one condition by pressing add as-



Then we will find Maximum theta with having required weight in the situation of short sell.

[[[[[

Mini. Risk Without SS

In this step we calculate minimum risk without short sell. To find out this we need to go on

the process given below:

Select Portfolio Standard Deviation and open Solver.

Fill the “Set target cell” with the cell no of Portfolio Standard Deviation and tick

minimize.








Then we will find Minimum risk with having required weight in the situation of no short sell.

Mini. Risk With SS

In this step we calculate minimum Risk with short sell. To find out this we need to go on the

process given below:


Fill the “Set target cell” with the cell no of Portfolio Standard Deviation. Tick it to

minimum.


Fill the “subject to the constraints” with one condition by pressing add as-



Then we will find Minimum risk with having required weight in the situation of short sell.

Min. Risk (Given R.) Without SS

In this step we calculate minimum risk having a given rate without short sell. To find out this

we need to go on the process given below:


Fill the “Set target cell” with the cell no of Portfolio Standard Deviation and tick

minimize.


Fill the “subject to the constraints” with three condition by pressing add as-






In the Cell Reference we need to select $G$20 as the Portfolio Return and

then select = and the fill constraint with 0.1. It represents 10% required return.

Then we will find Minimum risk having required rate of return with required weight in the

situation of no short sell.

Min. Risk (Given R.) With SS

In this step we calculate minimum Risk having a given return with short sell. To find out this

we need to go on the process given below:


Fill the “Set target cell” with the cell no of Portfolio Standard Deviation. Tick it to

minimum.




= and then fill constraint with 1.00. It represent market risk is 1.

In the Cell Reference we need to select $G$20 as the Portfolio Return and

then select = and the fill constraint with 0.1. It represents 10% required return.

Then we will find Minimum risk having required rate return with required weight in the

situation of short sell.

Chapter- 03

Findings of the portfolio

An investor have fund TK. 1Million to invest in market. If he invest in the selected

organization with equal weight 0.10, it will increase its option price TK 4.29 per Month with

a SDp of 1.06%

If investor thinks about how to maximize it option price by maximizing its theta value, he/she

has to invest in Dutch Bangla Bank 16 %, Prime Finance & Invest. 9%, AMCL (Pran) 34%,

Titas Gas 31%, Intech Online 9% & Shinepukur Ceramics Limited 1% to get maximum theta

amounting 6.94. Besides this it reduces the risk of the portfolio to 0.58%.

If the present market allows short sell facility to get maximum theta investor has to short cell

three firms share that are BSRM Steels Limited, Apex Spinning, Confidence Cement. Under

this situation investor will be able to rise its option price TK 10.30 per Month with a lower

risk 0.39%.

If investor (Risk Averse) want to reduce its risk then he/she will have to invest in Dutch-

Bangla Bank, Prime Finance & Invest., AMCL (Pran), Glaxo SmithKline where the investor

will bear only 0.367% risk for the portfolio.

If investor (Risk Averse) want to reduce its risk under short selling condition then he/she will

have to invest in Dutch-Bangla Bank, Prime Finance & Invest., AMCL (Pran), Titas Gas,

Glaxo SmithKline where the investor will bear only 0.27% risk for the portfolio. Beside this

he/she will have to short cell BSRM Steels Limited, Apex Spinning., Confidence Cement,

Intech Online Ltd. shares. This indicates that the immediate firms will face price fall in very

near future.

If investor want 10% return form the portfolio & if there is no short sell option then he/she

have to bear 2.02% risk for the portfolio & have to invest 92% in Intech Online Ltd & rest of

on the Glaxo SmithKline.

If investor want 10% return form the portfolio under short sell option then he/she have to bear

1.04% risk for the portfolio & have to all the companies accordingly. Beside this he/she have

to short sell Dutch-Bangla Bank, BSRM Steel Ltd, & Confidence Cement companies share.

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