Many books focus on the theory of investment management and leave the details of the implementation of the theory up to you. This book illustrates how theory is applied in practice while stressing the importance of the portfolio construction process.
The Second Edition of The Theory and Practice of Investment Management is the ultimate guide to understanding the various aspects of investment management and investment vehicles. Tying together theoretical advances in investment management with actual practical applications, this book gives you a unique opportunity to use proven investment management techniques to protect and grow a portfolio under many different circumstances.
- Contains new material on the latest tools and strategies for both equity and fixed income portfolio management
- Includes key take-aways as well as study questions at the conclusion of each chapter
- A timely updated guide to an important topic in today's investment world
This comprehensive investment management resource combines real-world financial knowledge with investment management theory to provide you with the practical guidance needed to succeed within the investment management arena.
Table of Contents
About the Editors xiii
Contributing Authors xv
Foreword xvii
PART ONE Instruments, Asset Allocation, Portfolio Selection, and Asset Pricing 1
CHAPTER 1 Overview of Investment Management 3
Frank J. Fabozzi and Harry M. Markowitz
Setting Investment Objectives 4
Establishing an Investment Policy 4
Selecting a Portfolio Strategy 6
Constructing the Portfolio 6
Measuring and Evaluating Performance 7
Key Points 14
CHAPTER 2 Asset Classes, Alternative Investments, Investment Companies, and Exchange-Traded Funds 15
Mark J. P. Anson, Frank J. Fabozzi, and Frank J. Jones
Asset Classes 15
Overview of Alternative Asset Products 21
Investment Companies 31
Exchange-Traded Funds 36
Mutual Funds vs. ETFs: Relative Advantages 39
Key Points 41
Questions 44
CHAPTER 3 Portfolio Selection 45
Frank J. Fabozzi, Harry M. Markowitz, Petter N. Kolm, and Francis Gupta
Some Basic Concepts 47
Measuring a Portfolio’s Expected Return 49
Measuring Portfolio Risk 52
Portfolio Diversification 56
Choosing a Portfolio of Risky Assets 60
Issues in Portfolio Selection 68
Key Points 76
Questions 78
CHAPTER 4 Capital Asset Pricing Models 79
Frank J. Fabozzi and Harry M. Markowitz
Sharpe-Lintner CAPM 79
Roy CAPM 81
Confusions Regarding the CAPM 82
Two Meanings of Market Efficiency 83
CAPM Investors Do Not Get Paid for Bearing Risk 94
The “Two Beta” Trap 95
Key Points 100
Questions 101
CHAPTER 5 Factor Models 103
Guofu Zhou and Frank J. Fabozzi
Arbitrage Pricing Theory 104
Types of Factor Models 105
Factor Model Estimation 112
Key Points 118
Appendix: Principal Component Analysis in Finance 119
Questions 124
CHAPTER 6 Modeling Asset Price Dynamics 125
Dessislava A. Pachamanova and Frank J. Fabozzi
Financial Time Series 125
Binomial Trees 127
Arithmetic Random Walks 128
Geometric Random Walks 134
Mean Reversion 142
Advanced Random Walk Models 148
Stochastic Processes 152
Key Points 157
Questions 158
CHAPTER 7 Asset Allocation and Portfolio Construction 159
Noël Amenc, Felix Goltz, Lionel Martellini, and Vincent Milhau
Asset Allocation and Portfolio Construction Decisions in the Optimal Design of the Performance-Seeking Portfolio 161
Asset Allocation and Portfolio Construction Decisions in the Optimal Design of the Liability-Hedging Portfolio 173
Dynamic Allocation Decisions to the Performance-Seeking and Liability-Hedging Portfolios 179
Key Points 195
Appendix 196
Questions 202
PART TWO Equity Analysis and Portfolio Management 205
CHAPTER 8 Fundamentals of Common Stock 207
Frank J. Fabozzi, Frank J. Jones, Robert R. Johnson, and Pamela P. Drake
Earnings 208
Dividends 210
The U.S. Equity Markets 213
Trading Mechanics 215
Trading Costs 220
Stock Market Indicators 222
Key Points 224
Questions 226
CHAPTER 9 Common Stock Portfolio Management Strategies 229
Frank J. Fabozzi, James L. Grant, and Raman Vardharaj
Integrating the Equity Portfolio Management Process 229
Capital Market Price Efficiency 230
Tracking Error and Related Measures 233
Active vs. Passive Portfolio Management 239
Equity Style Management 240
Passive Strategies 245
Active Investing 247
Performance Evaluation 264
Key Points 267
Questions 268
CHAPTER 10 Approaches to Common Stock Valuation 271
Pamela P. Drake, Frank J. Fabozzi, and Glen A. Larsen Jr.
Discounted Cash Flow Models 271
Relative Valuation Methods 278
Key Points 284
Questions 285
CHAPTER 11 Quantitative Equity Portfolio Management 287
Andrew Alford, Robert Jones, and Terence Lim
Traditional and Quantitative Approaches to Equity Portfolio Management 289
Forecasting Stock Returns, Risks, and Transaction Costs 292
Constructing Portfolios 298
Trading 300
Evaluating Results and Updating the Process 302
Key Points 304
Questions 305
CHAPTER 12 Long-Short Equity Portfolios 307
Bruce I. Jacobs and Kenneth N. Levy
Constructing a Market-Neutral Portfolio 308
The Importance of Integrated Optimization 312
Adding Back a Market Return 316
Some Concerns Addressed 321
Evaluating Long-Short 323
Key Points 324
Questions 325
CHAPTER 13 Multifactor Equity Risk Models 327
Frank J. Fabozzi, Raman Vardharaj, and Frank J. Jones
Model Description and Estimation 328
Risk Decomposition 330
Applications in Portfolio Construction and Risk Control 336
Key Points 341
Questions 343
CHAPTER 14 Fundamentals of Equity Derivatives 345
Bruce M. Collins and Frank J. Fabozzi
The Role of Derivatives 345
Listed Equity Options 348
Futures Contracts 366
Pricing Stock Index Futures 370
OTC Equity Derivatives 375
Structured Products 380
Key Points 381
Questions 382
CHAPTER 15 Using Equity Derivatives in Portfolio Management 383
Bruce M. Collins and Frank J. Fabozzi
Equity Investment Management 384
Portfolio Applications of Listed Options 386
Portfolio Applications of Stock Index Futures 390
Applications of OTC Equity Derivatives 399
Risk and Expected Return of Option Strategies 410
Key Points 413
Questions 414
PART THREE Bond Analysis and Portfolio Management 415
CHAPTER 16 Bonds, Asset-Backed Securities, and Mortgage- Backed Securities 417
Frank J. Fabozzi
General Features of Bonds 417
U.S. Treasury Securities 421
Federal Agency Securities 423
Corporate Bonds 424
Municipal Securities 428
Asset-Backed Securities 430
Residential Mortgage-Backed Securities 434
Commercial Mortgage-Backed Securities 450
Key Points 453
Questions 456
CHAPTER 17 Bond Analytics 457
Frank J. Fabozzi
Basic Valuation of Option-Free Bonds 457
Conventional Yield Measures 463
Total Return 468
Measuring Interest Rate Risk 471
Key Points 484
Questions 486
CHAPTER 18 Bond Analytics 489
Frank J. Fabozzi and Steven V. Mann
Arbitrage-Free Bond Valuation 489
Yield Spread Measures 496
Forward Rates 498
Overview of the Valuation of Bonds with Embedded Options 505
Lattice Model 507
Valuation of MBS and ABS 522
Key Points 531
Questions 533
CHAPTER 19 Bond Portfolio Strategies for Outperforming a Benchmark 535
Bülent Baygün and Robert Tzucker
Selecting the Benchmark Index 536
Creating a Custom Index 539
Beating the Benchmark Index 544
Key Points 553
Questions 554
CHAPTER 20 The Art of Fixed Income Portfolio Investing 557
Chris P. Dialynas and Ellen J. Rachlin The Global Fixed Income Portfolio Manager 558
The Global Challenge 565
Portfolio Parameters 565
Regulatory Changes, Demographic Trends, and Institutional Bias 568
Information in the Markets 569
Duration and Yield Curve 573
Volatility 574
International Corporate Bonds 577
International Investing and Political Externalities 579
Foreign Investment Selection 579
Currency Selection 582
Key Points 583
Questions 584
CHAPTER 21 Multifactor Fixed Income Risk Models and Their Applications 585
Anthony Lazanas, António Baldaque da Silva, Radu Găbudean, and Arne D. Staal
Approaches Used to Analyze Risk 587
Applications of Risk Modeling 615
Key Points 621
Questions 622
CHAPTER 22 Interest Rate Derivatives and Risk Control 623
Frank J. Fabozzi
Interest Rate Futures and Forward Contracts 623
Interest Rate Swaps 634
Interest Rate Options 640
Interest Rate Agreements (Caps and Floors) 642
Key Points 643
Questions 644
CHAPTER 23 Credit Default Swaps and the Indexes 647
Stephen J. Antczak, Douglas J. Lucas, and Frank J. Fabozzi
What Are Credit Default Swaps? 648
Credit Default Swaps Indexes 654
Key Points 658
Questions 658
About the Web Site 661
Index 663
