Unit-III

FUNDAMENTAL ANALYSIS:

Fundamental analysis is the study of economic factors, industrial environment

and the factors related to the company. The earnings of the company, the
growth rate and the risk exposure of the company have a direct bearing on the
price of the share. These factors in turn rely on the host of other factors like
economic development in which they function, the industry belongs to, and
finally companies’ own performance. The fundamental school of thought
appraised the intrinsic value of shares through

• Economic Analysis

• Industry Analysis

• Company Analysis

ECONOMIC ANALYSIS:

The state of the economy determines the growth of gross domestic product and
investment opportunities. An economy with favorable savings, investments,
stable prices, balance of payments, and infrastructure facilities provides a best
environment for common stock investment. If the company grows rapidly, the
industry can also be expected to show rapidly growth and vice versa. When the
level of economic activity is low, stock prices are low, and when the level of
economic activity is high, stock prices are high reflecting the prosperous
outlook for sales and profits of the firms. The analysis of macro economic
environment is essential to understand the behaviour of the stock prices.

The commonly analyzed macro economic factors are as follows:

❖ Gross domestic product (GDP):

GDP represents the aggregate value of goods and services produced in the
economy. It consists of personal consumption expenditure, gross private
domestic investment and government expenditure on goods & services and net
export of goods & services. It indicates rate of growthof economy. The estimate
on GDP available on annual basis.

❖ Business Cycle:
Business cycles refer to cyclical movement in the economic activity in a country
as a whole. An economy marching towards prosperity passes through different
phases, each known as a component of a business cycle. These phases are:

a. Depression: Demand level in the economy is very low. Interest rates and
Inflation rates are high. These affect profitability and dividend pay out and
reinvestment activities.

b. Recovery: Demand level starts picking up. Fresh investment by corporate

firms shows increasing trend.

c. Boom: After a consistent recovery for a number of years, the economy starts
showing signs of boom which is characterized by high level of economic
activities such as demand, production and profits.

d. Recession: The boom period is generally not able to sustain for a long period.
It slows down and results in the recession.

❖ Savings & investment:

The growth requires investment which in turn requires substantial amount of

domestic savings. Stock market is a channel through which the savings of
investors are made available to the corporate bodies. Savings are distributed
over various assets like equity shares, deposits, mutual fund unit, real estate and
bullion. The saving and investment pattern of the public effect the stock to great
extent.

❖ Inflation:

The inflation is raise in price, where its rate increases, than the real rate of
growth would be very little. The demand is the consumer product industry is
significantly affected. The industry which comes under the government price
control policy may lose the market. If the mild level of inflation, it is good to
the stock market but high rate of inflation is harmful to the stock market.

❖ Interest rates:

The interest rate affects the cost of financing to the firms. Higher interest rates
increase the cost of funds and lower interest rates reduce the cost of funds
resulting in higher profit. There are several reasons for change in interest rates
such as monetary policy, fiscal policy, inflation rate, etc,
❖ Monetary Policy, Money supply and Liquidity:

The liquidity in the economy depends upon the money supply which is
regulated by the monetary policy of the government. RBI regulate the money
supply and liquidity in the economy. Business firms require funds for expansion
projects. The capacity to raise funds from the market is affected by the liquidity
position in the economy. The monetary policy is designed with an objective to
maintain a balance in liquidity position. Neither the excess liquidity nor the
shortage are desirable. The shortage of liquidity will tend to increase the interest
rates while the excess will result in inflation.

❖ Budget:

The budget draft provides an elaborate account of the government revenues and
expenditures.

A deficit budget may lead to high rate of inflation and adversely affect the cost
of production. Surplus budget may result in deflation. Hence, balanced budget is
highly favourable to the stock market.

❖ Tax structure:

Every year in March, the business community eagerly awaits the government’s
announcement regarding the tax policy. Concessions and incentives given to the
certain industry encourage investment in particular industry. Tax relief given to
savings encourages savings. The minimum alternative tax (MAT) levied by
finance minister in 1996 adversely affected the stock market. Ten years of tax
holiday for all industries to be set up in the northeast is provided in the 1999
budget. The type of tax exemption has impact on the profitability of the
industries.

❖ Monsoon and agriculture:

Agriculture is directly and indirectly linked with the industries. For example,
sugar, cotton, textile and food processing industries depend upon agriculture for
raw material. Fertilizer and insectide industries are supplying inputs to
agriculture. A good monsoon leads to higher demand for input and results in
bumper crop. This would lead to buoyancy in the stock market.

When the monsoon is bad, agricultural and hydro power production would
suffer. They cast a shadow on a share market.
❖ Infrastructure facilities:

Infrastructure facilities are essential for the growth of industrial and agricultural
sector. A wide network of communication system is a must for the growth of
the economy. Good infrastructure facilities affect the stock market favourably.
The government are liberalized its policy regarding the communication,
transport and power sector.

❖ Demographic factors:

The Demographic data provides details about the population by age, occupation,
literacy and geographic location. This is needed to forecast the demand of
customer goods. The population by age indicates the availability of able work
force.

❖ Economic forecasting:

To estimate the stock price changes, an analyst the macro economic

environment and the factor peculiar to industry concerned to it. The economic
activities affect the corporate profits, Investors, attitude and share prices.

❖ Economic indicators:

The economic indicators are factors that indicate the present status, progress or
slow down of the economy. They are capital investment, business profits,
money supply, GNP, interest rate, unemployment rate, etc. The economic
indicators are grouped into leading, coincidental and lagging indicators. The
indicators are selected on the following criteria

Economic significance,

Statistical adequacy,

Timing, conformity.

❖ Diffusion index:

Diffusion index is a composite index or consensus index. The diffusion index

consist of leading, coincidental and lagging indicators. This type of index has
been constructed by the National Bureau of Economic Research in USA. But it
is complex in nature to calculate and the irregular movements that occur in
individual indicators cannot be completely eliminated.
❖ Econometric model building:

For model building several economic variables are taken into consideration. The
assumptions underlying the analysis are specified. The relationship between the
independent and dependent variables is given mathematically. While using the
model, the analyst has to think clearly all inter-relationship between the
variables. This model use simultaneous equations.

Other factors:

a. Industrial growth rate

b. Fiscal policy of the Government

c. Foreign exchange reserves

d. Growth of infrastructural facilities

e. Global economic scenario and confidence

f. Economic and political stability.

INDUSTRY ANALYSIS

An industry is a group of firms that have similar technological structure of

production and produce similar products. E.g.: food products, textiles,
beverages and tobacco products, etc. These industries can be classified on the
business cycle i.e. classified according to their relations to the different phases
of the business cycle. They are classified into

▪ Growth industry

▪ Cyclical industry

▪ Defensive industry

▪ Cyclical Growth industry

➢ Growth industry:

The growth industry has special features of high rate of earnings and growth in
expansion, independent of the business cycle. The expansion of the expansion
of the industry mainly depends upon the technological change.

➢ Cyclical industry:
The growth and the profitability of industry move along with the business cycle.
During the boom period they enjoy the growth and during depression they
suffer set back.

➢ Defensive industry:

Defensive industry defies the movement of business cycle. The stock of

defensive industries can be held by the investor for income earning purpose.
They expand and earn income in the depression period too, under the
government’s of production and are counter-cyclical in nature.

➢ Cyclical Growth industry

This is a new type of industry that is cyclical and at the same time growing. The
changes in technology and introduction of new models help the automobile
industry to resume their growth path.

INDUSTRY LIFE CYCLE

The life cycle of the industry is separated into four well defined stages such as

o Pioneering stage

o Rapid growth stage

o Maturity and stabilization stage

o Declining stage
Pioneering stage:

The prospective demand for the product is promising in this stage and the
technology of the product is low. The demand for the product attracts many
producers to produce the particular product.

There would be severe competition and only fittest companies this stage. The
producers try to develop brand name, differentiate the product and create a
product image. This would lead to non price competition too. The severe
competition often leads to the change of position of the firms in terms of market
shares and profit. In this situation, it is difficult to select companies for
investment because the survival rate is unknown.

Rapid growth stage:

This stage starts with the appearance of surviving firms from the pioneering
stage. The companies that have withstood the competition grow strongly in
market share and financial performance. The technology of the production
would have improved resulting in low cost of productions and good quality
products. The companies have stable growth rate in this stage and they declare
dividend to the share-holders. It is advisable to invest in the shares of these
companies.

Maturity and stabilization stage:

In the stabilization stage, the growth rate tends to moderate and the rate of
growth would be more or less equal to the industrial growth rate or the gross
domestic product growth rate. Symptoms of obsolescence may appear in the
technology. To keep going, technological innovations in the production process
and products should be introduced. The investors have to closely monitor the
events that take place in the maturity stage of the industry.

Declining stage:

In this stage, Demand for the particular product and the earnings of the
companies in the industry decline. The specific feature of the declining stage is
that even in the boom period; the growth of the industry would be low and
decline at a higher rate during the recession. It is better to avoid investing in the
shares of the low growth industry even in the boom period. Investment in the
shares of these types of companies leads to erosion of capital.

KEY FACTORS IN INDUSTRY ANALYSIS:

1. The past performance of the industry.

2. The performance of the product and technology of the industry.

3. Role of government in the industry.

4. Labour conditions relating to the industry.

5. Competitive conditions in the market

6. Inter-linkages with other industries

DETERMINING THE SENSITIVITY OF THE INDUSTRY:

1. Sensitivity to sales.

2. Operating leverage

3. Financial leverage.

SWOT ANALYSIS FOR THE INDUSTRY

Strength: Strength of the industry refers to its capacity and comparative
advantage in the economy. For example, the existing research and development
facilities and greater dependence on allopathic drugs are two elements of
strength to the pharmaceutical industry in India.

Weakness: Weakness refers to the restrictions and inherent limitations in the

industry, which keep the industry away from meeting its target. For example,
Lack of infrastructure facility, rail-road links, etc., are weakness of the tourism
industry in India.

Opportunities: Opportunities refers to the expectation of favourable situation

for an industry. For example, with increase in purchasing power with the
people, demand for pharmaceutical industry will increase and likewise,
changing preference from gold to diamond jewellary has brought a lot of
opportunities for the diamond industry.

Threats: Threat refers to an unfavourable situation that has a potential to

endanger the existence of an industry. For example, after liberalization of
import policy in India, import of Chinese goods has threatened many industries
in India, such as toys, novelties, etc.

III. COMPANY ANALYSIS

Effect of a business cycle on an individual company may be different from one

industry to another. Here, the main point is the relationship between revenues
and expenses of the firm and the economic and industry changes. The basic
objective of company analysis is to identify better performing companies in an
industry .These companies would be identified for investment.

The processes that may be taken up to attain the objective are as follows:

a. Analysis of management of the company to evaluate its trust-worthiness,

capacity and efficiency.

b. Analyse the financial performance of the company to forecast its future

expected earnings.

c. Evaluation of long-term vision and strategies of company in terms of

organizational strength and resources of company.

d. Analysis of key success factor for particular industry.

SOURCES OF INFORMATION:

Information and data required for analysis of earnings of a firm are primarily
available in the annual financial statements of the firm. It include,

➢ Balance sheet or Position statement

➢ Income statement or Profit & Loss account.

➢ Financial statement analysis (Ratio analysis)

➢ Cash flow statement, the statement of sources and uses of cash and also

➢ Top level management people in the company.

I.BALANCE SHEET (BS):

It is the most significant and basic financial statement of any firm. It is prepared
by a firm to present a summary of financial position at a given point of time,
usually at the end of financial year. It shows the state of affairs of the firm at a
point of time. In fact, the total assets must be equal to the total claim against the
firm and this can be stated as,

Total assets =Total claim (Debt +Share holders)

=Liabilities +Share holders equity

The different items contained in BS can be grouped into,

1. Assets

2. Liabilities

3. Shareholder’s funds.

a. ASSETS: An asset of the firm represents the investments made by the firm in
order to generate earnings. It can be classified into (a).Fixed Asset (b).Current
assets.

i. FIXED ASSET – Those which are intended to be for a longer period .These
are permanent in nature, relatively less liquid and are not easily converted into
cash in short run. Fixed asset include, plant & machinery, furniture & fixtures,
buildings, etc. The value of fixed asset is known as book value, which may be
different from market value or replacement cost of the assets. The amount of
depreciation is anon-cash expense and does not involve cash out flow. It is
taken as an expense item and is included in the cost of goods sold or indirect
expense.
ii. CURENT ASSET - It is the liquid asset of the firm and is convertible into
cash within a period of one year. It includes cash and bank balance, receivables,
inventory (raw material, finished goods, etc), prepaid expenses, loan, etc.

b. LIABILITIES: It is also called as debts. It is claimed by the outsiders

against the assets of the firm. The liabilities refer to the amount payable by the
firm to the claim holders. The liabilities are classified into long term and short
term liabilities.

i. LONG TERM LIABILITIES: It is the debt incurred by the firm, which is

not payable during the period of next one year. It represents the long term
borrowings of the firm.

ii. CURRENT LIABILITITES: It is the debt which the firm expects to pay
within a period of one year. It is related to the current assets of the firm in the
sense that current liabilities are paid out of the realization of current assets.

3. SHAREHOLDERS EQUITY (SE): It represents the ownership interest in

the firm and reflects the obligations of the firm towards its owners. It the direct
contribution of the shareholders to the firm.The retained earnings on the other
hand reflects the accumulated effect of the firms earnings. SE is also called as
net worth. The liabilities and the SE must be equal to the total assets of the

firm.

II.INCOME STATEMENT OR PROFIT & LOSS ACCOUNT (IS):

It shows the result of the operations of the firm during a period. It gives detail
sources of income and expenses; Income statement is a flow report against the
balance sheet which is a stock report or status report. It helps in understanding
the performance of the firm during the period under consideration. It can be
grouped into three classes. (i) Revenues (ii) Expenses & (iii) Net profit or loss

REVENUES- It is the inflow of resources\cash that arise because of operation

of the firm.

The revenue arises from the sale of goods and services to the customer and
other non-operating incomes. The firm may also get revenue from the use of its
economic resources elsewhere. E.g. – some of the funds might have been
invested in some other firm. The income by way of interest or dividend is also a
revenue.

EXPENSES- The cost incurred in the earning the revenues is called the
expenses. Expenses like, salaries, general expenses, repairs, etc. It occurs when
there is a decrease in assets or increase in liabilities

III.CASH FLOW STATEMENT AND FUND FLOW STATEMENT:

The balance sheet and the income statement are the two common financial
statements and are also known as traditional financial statements. It is essential
to know the movement of cash during the period. It is a historical record of
where the cash came from and how was it used.

IV. FINANCIAL STATEMENT ANALYSIS:

Financial statement analyses are ratio like:

a. Profitability ratios

b. Liquidity ratios

c. Solvency ratios

TECHNICAL ANALYSIS

It is a process of identifying trend reversal at earlier stages to formulate the

buying and selling strategy. With the help of various indicators they analyse the
relationship between price& volume, supply & demand, etc. An investor who
does this analysis is called technician.

ASSUMPTIONS:

1. The market value is determined by the interaction of supply and demand.

2. The market discounts everything. The information regarding the issuing of

bonus shares and

right issues may support the prices. These are some of the factors which cause
shift in demand & supply and change in direction of trends.

3. The market always moves in trend, except for certain minor deviations. The
trend may either be increasing or decreasing. It may continue in same manner or
reverse.
4. In the rising market, many purchase shares in greater volume. When the
market moves down, people are interested in selling it. The market technicians
assume that past prices predict the future.

THEORIES USED IN THIS ANALYSIS:

1. Dow theory

2. Elliot wave theory

DOW THEORY:

This theory was developed by Charles H Dow. He did research and published in
journal in 1984 mainly for trend analysis. According to his theory, the price
patterns do not move just like that and it follows some trend. There are 3 types
of trend.

• Primary trend – It is broad upward or downward movement which last for a

year or two.

• Secondary trend or Correction trend – It last for 3 weeks to some months.

• Minor trend. –It refers to the day to day price. Its also knows as fluctuations

These 3 trends are compared to tide, waves and ripples of the sea.
Diagrammatic representations of these trends are depicted below:

PRIMARY TREND:

The security price may be either increasing or decresing.When market exhibits

increasing trend, its called bull market.The graph below show three clear cut
peaks.
Each peak is higher than the previous peak.The revival period encourages more
and more investors to buy scripts,their expectation about the future is high.In
the next phase, increased profits or corporate would result in further price rise.In
the final phase,the price advance due to inflation and speculation

the above graph depicts bear market.The contrary of bull market happens
here .In the first phase ,the prices are coming down,this would result in lowering
of profit in second phase.The final phase is characrterised by distress sale of
share.
In the bull market the secondary trend results in fall of about 33-66% of earlier
rise. In bear market, it carries the price upward and corrects the main trend. It
provides breathing space to market.

MINOR TREND :

Its also called as random wiggles. They are the daily price fluctuations. It tries
to carry the secondary trend movement. It’s better for the investors to carry
primary or secondary than this trend

ELLIOT WAVE THEORY

The above graph depicts bullish wave,

1,3,5 – impulsive waves

2,4 - correction waves

In starting wave, only few people invest and the waves keep moving high. It
indicates the prices of shares are moving high and hence they sell it. As they get
more profit they will again invest in the same company and there will be few
more investors. This makes the wave to move higher. Same process keeps going
everyday. In the 5th wave investors will be more interested in investing and to
gain profit. Since people buy lot of shares here, it is called as buying wave.
After these five waves get over A,B,C waves or correction waves will occur. It
these 8 waves get over and if the same trend occur, again we may face bully’s
wave or else we have beary’s wave.
TYPES OF PRICES
1. The open price.
2. The close price.
3. The high price.
4. The low price.
TOOLS AND TECHNIQUES USED IN TECHNICAL ANLYSIS
CHARTS
What are stock charts ?
It is a graphical representation of how a stock’s price or trading volumes have
changed over time. This relationship can be presented in a number of ways,
through the use of different types of charts. It is your job, as a technical analyst,
to identify the type that will bring out a hidden trend most effectively.
Stock charts, like all other charts, have two axis—the vertical axis and the
horizontal axis. The horizontal axis represents the historical time periods for
which a technical chart has been constructed. The vertical axis displays the
stock price or the trading volume corresponding to each period.
There are many types of charts that are used for technical analysis. However,
the four types that are most common are—
1.line chart, 2.bar chart, 3.point and figure chart and 4.candlestick chart.
We will discuss these technical charts extensively later. However, we have
illustrated three types of stock charts below. The bar chart looks a lot like the
candlestick chart. All the charts displayed below
are stock price charts. The nature of the input may, however, have to be altered
when you move from one chart type to another.

Line charts: A line chart is the figure that, perhaps, automatically comes to
mind when you think of a chart. The line chart has the stock price or trading
volume information on the vertical or y-axis and the corresponding time period
on the horizontal or x-axis). Trading volumes refer to the number of stocks of a
company that were bought and sold in the market on a particular day. The
closing stock price is commonly used for the construction of a line chart.
Once the two axes have been labelled, preparation of a line chart is a two-step
process. In the first step, you take a particular date and plot the closing stock
price as on that date on the graph. For this, you’ll put a dot on the chart in such
a way that it is above the concerned date and alongside the corresponding stock
price. Let’s suppose that the closing stock price on December 31, 2014 was Rs
120. For plotting it, you’ll put a dot in such a way that it is simultaneously
above the marking for that date on the x-axis, and alongside the mark that says
Rs 120 on the y-axis. You will do this for all dates. In the second step,
you will connect all the dots plotted with a line. That’s it! You have your line
chart below:

Point and figure charts:

A point and figure chart essentially displays the volatility in a stock’s price over
a chosen period of time. On the vertical axis, it displays the number of times
stock prices rose or fell to a particular extent. On the horizontal axis, it marks
time intervals. Markings on the chart are exclusively in the form of X’s and O’s.
X’s represent the number of times the stock rose by the specified limit, while
O’s represent the number of times it fell by it. The specified amount used is
called box size. It is directly related to the difference between markings on the
y-axis.
Bar charts: A bar chart is similar to a line chart. However, it is much more
informative. Instead of a dot, each marking on a bar chart is in the shape of a
vertical line with two horizontal lines protruding out of it, on either side. The
top end of each vertical line signifies the highest price the stock traded at during
a day while the bottom point signifies the lowest price at which it traded at
during a day. The horizontal line to the left signifies the price at which the stock
opened the trading day. The one on the right signifies the price at which it
closed the trading day. As such, each mark on a bar chart tells you four things.
An illustration of the marks used.

A bar chart is more advantageous than a line chart because in addition to prices,
it also reflects price volatility. Charts that show what kind of trading happened
that day are called Intraday charts. The longer a line is, the higher is the
difference between opening and closing prices. This means higher volatility.
You should be interested in knowing about volatility because high volatility
means high risk. After all, how comfortable would you be about investing in a
stock whose price changes frequently and sharply?
Candlestick charts: Candlestick charts give the same information as bar charts.
They only offer it in a better way. Like a bar chart is made up of different
vertical lines, a candlestick chart is made up of rectangular blocks with lines
coming out of it on both sides. The line at the upper end signifies the day’s
highest trading price. The line at the lower end signifies the day’s lowest trading
price. The day’s trading can be shown in Intraday charts. As for the block itself
(called the body), the upper and the lower ends signify the day’s opening and
closing price. The one that is higher of the two, is at the top, while the other one
is at the bottom of the body.
What makes candlestick charts an improvement over bar charts is that they give
information about volatility throughout the period under consideration. Bar
charts only display volatility that occurs within each trading day. Candles on a
candlestick chart are of two shades-light and dark. On days when the opening
price was greater than the closing price, they are of a lighter shade (normally
white). On days when the closing price was higher than the opening price,
they are of a darker shade (normally black).A single day’s trading is represented
by Intraday charts. Higher the variation in colour, more volatile was the price
during the period. The appearance of candles on a candlestick chart is as
follows:
PRICE PATTERNS
Price Patterns are formations which appear on stock with the help of charts
which have shown to have a certain degree of predictive value. Some of the
most common patterns include: Head & Shoulders (bearish), Inverse Head &
Shoulders (bullish), Double Top (bearish), Double Bottom (bullish), Triangles,
Flags.
CONTINUATION PATTERNS
A price pattern that denotes a temporary interruption of an existing trend is
known as a continuation pattern. A continuation pattern can be thought of as a
pause during a prevailing trend – a time during which the bulls catch their
breath during an uptrend, or when the bears relax for a moment during a
downtrend. While a price pattern is forming, there is no way to tell if the trend
will continue or reverse. As such, careful attention must be placed on the
trendlines used to draw the price pattern and whether price breaks above or
below the continuation zone. Technical analysts typically recommend assuming
a trend will continue until it is confirmed that it has reversed. In general, the
longer the price pattern takes to develop, and the larger the price movement
within the pattern, the more significant the move once price breaks above or
below the area of continuation. If price continues on its trend, the price pattern
is known as a continuation pattern. Common continuation patterns include:
• Pennants, constructed using two converging trendlines
• Flags, drawn with two parallel trendlines
• Wedges, constructed with two converging trendlines, where both are angled
either up or down
FLAGS & PENNANTS
Flags and Pennants are short-term continuation patterns that represent a
consolidation following a sharp price movement before a continuation of the
prevailing trend. Flag patterns are characterized by a small rectangular pattern
that slopes against the prevailing trend, while pennants are small symmetrical
triangles that look very similar.
The short-term price target for a flag or pennant pattern is simply the length of
the ‘flagpole’ or the left vertical side of the pattern applied to the point of the
breakout, as with the triangle patterns. These patterns typically last no longer
than a few weeks, since they would then be classified as rectangle patterns or
symmetrical triangle patterns.
TRIANGLES
Triangles are among the most popular chart patterns used in technical analysis
since they occur frequently compared to other patterns. The three most common
types of triangles are symmetrical triangles, ascending triangles, and descending
triangles. These chart patterns can last anywhere from a couple weeks to several
months.

Figure Symmetrical Triangle Example – Source: StockCharts.com

Symmetrical triangles occur when two trend lines converge toward each other
and signal only that a breakout is likely to occur – not the direction. Ascending
triangles are characterized by a flat upper trend line and a rising lower trend line
and suggest a breakout higher is likely, while descending triangles have a flat
lower trend line and a descending upper trend line that suggests a breakdown is
likely to occur. The magnitude of the breakouts or breakdowns is typically the
same as the height of the left vertical side of the triangle.
REVERSAL PATTERNS
A price pattern that signals a change in the prevailing trend is known as a
reversal pattern. These patterns signify periods where either the bulls or the
bears have run out of steam. The established trend will pause and then head in a
new direction as new energy emerges from the other side (bull or bear). For
example, an uptrend supported by enthusiasm from the bulls can pause,
signifying even pressure from both the bulls and bears, then eventually giving
way to the bears. This results in a change in trend to the downside. Reversals
that occur at market tops are known as distribution patterns, where the trading
instrument becomes more enthusiastically sold than bought. Conversely,
reversals that occur at market bottoms are known as accumulation patterns,
where the trading instrument becomes more actively bought than sold.
As with continuation patterns, the longer the pattern takes to develop and the
larger the price movement within the pattern, the larger the expected move once
price breaks out. When price reverses after a pause, the price pattern is known
as a reversal pattern. Examples of common reversal patterns include:
• Head and Shoulders, signaling two smaller price movements surrounding one
larger movement
• Double Tops, representing a short-term swing high, followed by a subsequent
failed attempt to break above the same resistance level
• Double Bottoms, showing a short-term swing low, followed by another failed
attempt to break below the same support level
HEAD AND SHOULDERS
The Head and Shoulders is a reversal chart pattern that indicates a likely
reversal of the trend once it’s completed. A Head and Shoulder Top is
characterized by three peaks with the middle peak being the highest peak (head)
and the two others being lower and roughly equal (shoulders). The lows
between these peaks are connected with a trend line (neckline) that
represents the key support level to watch for a breakdown and trend reversal. A
Head and Shoulder Bottom – or Inverse Head and Shoulders – is simply the
inverse of the Head and Shoulders Top with the neckline being a resistance
level to watch for a breakout higher.

Figure Head and Shoulders – Source: StockCharts.com

DOUBLE TOPS AND BOTTOMS
The Double Top or Double Bottom pattern are both easy to recognize and one
of the most reliable chart patterns, making them a favorite for many technically-
orientated traders. The pattern is formed after a sustained trend when a price
tests the same support or resistance level twice without a breakthrough. The
pattern signals the start of a trend reversal over the intermediate- or long-term.

Figure – Double Top Example – Source: StockCharts.com

MARKET INDICATORS
Market indicators are a subset of technical indicators used to predict the
direction of major
financial indexes or groups of securities. Most market indicators are created by
analyzing the
number of companies that have reached new highs relative to the number that
created new
lows, known as market breadth, since it shows where the overall trend is
headed.
• Market Breadth indicators compare the number of stocks moving in the same
direction as a larger trend. For example, the Advance-Decline Line looks at the
number
of advancing stocks versus the number of declining stocks.
• Market Sentiment indicators compare price and volume to determine whether
investors are bullish or bearish on the overall market. For example, the Put Call
Ratio
looks at the number of put options versus call options during a given period.
MOVING AVERAGES
Moving averages "smooth" price data by creating a single flowing line. The line
represents the
average price over a period of time. Which moving average the trader decides to
use is determined by the time frame in which he or she trades. For investors and
long-term trend followers, the 200-day, 100-day and 50-day simple moving
average are popular choices.
There are several ways to utilize the moving average. The first is to look at the
angle of the moving average. If it is mostly moving horizontally for an extended
amount of time, then the rice isn't trending, it is ranging. If the moving average
line is angled up, an uptrend is underway. Moving averages don't predict
though; they simply show what the price is doing, on average, over a period of
time. Crossovers are another way to utilize moving averages. By plotting a 200-
day and 50-day moving average on your chart, a buy signal occurs when the 50-
day crosses above the 200-day. A sell signal occurs when the 50-day drops
below the 200-day. The time frames can be altered to suit your individual
trading time frame.

Portfolio Analysis

Introduction :
Portfolio means a collection of investments all owned by the same individual or
organization. Portfolio may be defined as a bundle of securities. These
investments often include stocks, which are investments in individual
businesses; bonds, which are investments in debt that are designed to earn
interest; and mutual funds, which are essentially pools of money from many
investors that are invested by professionals or according to indices.
Definition of Portfolio Analysis :
Portfolio Analysis is the process of reviewing or assessing the elements of the
entire portfolio of securities or products in a business. The review is done for
careful analysis of risk and return. Portfolio analysis conducted at regular
intervals helps the investor to make changes in the portfolio allocation and
change them according to the changing market and different circumstances. The
analysis also helps in proper resource / asset allocation to different elements in
the portfolio.

Portfolio Management :
Portfolio Management is the art and science of making decisions about
investment mix and policy, matching investments to objectives, asset allocation
for individuals and institutions, and balancing risk against performance. The art
of selecting the right investment policy for the individuals in terms of minimum
risk and maximum return is called as portfolio management. It also refers to
managing an individual’s investments in the form of bonds, shares, cash, mutual
funds, etc. so that he earns the maximum profits within the specific time frame.
Portfolio management refers to managing money of an individual under the
expert guidance of portfolio managers. It is done by analyzing the strengths,
weaknesses, opportunities and threats in different investment alternatives to
have a risk return trade off. Portfolio management is all about strengths,
weaknesses, opportunities and threats in the choice of debt v/s. equity, domestic
v/s. international, growth v/s. safety, and many other tradeoffs encountered in
the attempt to maximize return at a given appetite for risk. Portfolio is nothing
but the combination of various stocks in it. Understanding the dynamics of
market is the essence of Portfolio Management.
This means Portfolio Management basically deals with three critical questions
of investment planning.
1. Where to Invest?
2. When to Invest?
3. How much to Invest?
Portfolio is the combination of assets. It refers to a collection of investment
tools such as stocks, shares, mutual funds, bonds, and cash and so on depending
on the investor’s income, budget and convenient time frame.
Types of Portfolio :
There are two types of portfolio –
a) Market Portfolio : The market portfolio is a theoretical bundle of
investments that includes every type of asset available in the investment
universe, with each asset weighted in proportion to its total presence in the
market. The expected return of a market portfolio is identical to the expected
return of the market as whole.
b) Zero Investment Portfolios : A portfolio of assets formed where the group
of investments collectively forms a zero net value. Such an investment
portfolios can be achieved by simultaneously purchasing securities and selling
equivalent securities resulting to a net zero.
Need for Portfolio Management :
Portfolio management presents the best investment plan to the individuals as per
their income, budget, age and ability to undertake risks. Portfolio management
minimizes the risks involved in investing and also increases the chance of
making profits. Portfolio managers understand the client’s financial needs and
suggest the best and unique investment policy for them with minimum risks
involved. Portfolio management enables the portfolio managers to provide
customized investment solutions to clients as per their needs and requirements.
Modern Portfolio Management :
There are differences between Traditional and Modern Security Analysis. In
traditional form of security analysis greater emphasis is placed on analyzing risk
return relationship and in modern security analysis the intrinsic (Central) value
is given more significance. Another point of difference is the effect of personal
needs, desires and wants forming the basis of portfolio selection but in modern
security analysis, greater emphasis is laid on scientific approach to security
analysis in terms of estimating risk and return of portfolio and the risk return
trade off estimated by the investors.
Types of Portfolio Management :
Portfolio Management is further of the following types –
a) Active Portfolio Management:
As the name suggests, in an active portfolio management service, the portfolio
managers are actively involved in buying and selling of securities to ensure
maximum profits to individuals. The aim of active portfolio management is to
outperform the benchmark. (For example, BSE-SENSEX, NSE-NIFTY50, etc.).
b) Passive Portfolio Management:
In a passive portfolio management, the portfolio manager deals with a fixed
portfolio designed to match the current market scenario. Discretionary Portfolio
management services an individual authorizes a portfolio manager to take care
of his/her financial needs on his/her behalf. The individual issues money to the
portfolio manager who in turn takes care of all his investment needs, paper
work, documentation, filing and so on. In discretionary portfolio management,
the portfolio manager has full rights to take decisions on his client’s behalf. In
nondiscretionary portfolio management services, the portfolio manager can
merely advise the client what is good and bad for him but the client reserves full
right to take his own decisions.
Elements of Portfolio Management :
a) Proper Asset Allocation:
The key to effective portfolio management is the long-term mix of assets. Asset
allocation is based on the understanding that different types of assets do not
move in concert, and some are more volatile than others. Asset allocation seeks
to optimize the risk/return profile of an investor by investing in a mix of assets
that have low correlation to each other. Investors with a more aggressive profile
can weight their portfolio toward more volatile investments. Investors with a
more conservative profile can weight their portfolio toward more stable
investments.
b) Diversification:
The only certainty in investing it is impossible to consistently predict the
winners and losers, so the prudent approach is to create a basket of investments
that provide broad exposure within an asset class. Diversification is the
spreading of risk and reward within an asset class. Because it is difficult to
know which particular subset of an asset class or sector is likely to outperform
another, diversification seeks to capture the returns of all of the sectors over
time but with less volatility at any one time. Proper diversification takes place
across different classes of securities, sectors of the economy and geographical
regions.
c) Rebalancing and Restructuring:
It is used to return a portfolio to its original target allocation at annual intervals.
It is important for retaining the asset mix that best reflects an investor’s
risk/return profile. Otherwise, the movements of the markets could expose the
portfolio to greater risk or reduced return opportunities. For example, a portfolio
that starts out with a 70% equity and 30% fixed-income allocation could,
through an extended market rally, shift to an 80/20 allocation that exposes the
portfolio to more risk than the investor can tolerate. Rebalancing almost always
results in the sale of high-priced/low-value securities and the redeployment of
the proceeds into low-priced/high-value or out-of-favor securities. This annual
exercise enables investors to capture gains and expand the opportunity for
growth in high potential sectors while keeping the portfolio aligned with the
investor’s risk/return profile.

Portfolio Selection :
Portfolio Selection is the process of finding out the optimal portfolio which
would be one generating highest return with the lowest risk. This is done with
the objective of maximizing the investor’s return. Diversification is done for
reducing the risk in a portfolio. The investor usually combines a limited number
of securities thereby creating a large number of portfolios and in different
proportions. This is known as portfolio opportunity set. Every portfolio in the
opportunity set is characterized by an expected return and some risk in terms of
variance or standard deviation. Some portfolios in a portfolio opportunity set are
of interest to an investor depending upon the risk and return as measured by
standard deviation. A portfolio will dominate over others if it has a lower
standard deviation. These portfolios which are dominated by other portfolios are
known as inefficient portfolios. Efficient portfolios are the ones in which the
investor is interested to invest.
Efficient Portfolio :
An Efficient portfolio is the one which yields maximum return at minimum risk
at a given level of return. The Dominance Principle is used as a base to identify
the efficient portfolio. A portfolio having maximum return for a specific level of
risk is preferred over other portfolios having similar risk. Investors maximize
their terminal wealth by going for high yielding securities at a given risk level.
Only efficient portfolios are feasible in the long run which fulfills this need of
the investors. The expected returns and risk measured by standard deviation of
portfolio returns can be estimated as done in the table below.
Thus we can lay down general criteria for portfolio selection as -
1. Between two portfolios having the same risk, an investor would choose the
one with higher expected return.
2. Between two portfolios having the same return, an investor would choose the
one with lower risk.
This is because of the rational natures of the investors who is risk averse and
want more returns.
Markowitz Portfolio Theory :
Markowitz portfolio theory is also known as Modern Portfolio Theory. The
author of the modern portfolio theory is Harry Markowitz who introduced the
analysis of the portfolios of investments in his article ‘Portfolio Selection’
published in the Journal of Finance in 1952. He got Nobel Prize in Economic
Sciences in the year 1990. He is best known for his pioneering work in modern
portfolio theory. He studied the effect of asset risk, return, correlation and
diversification on probable investment portfolio returns.
Before this study, the investors would examine investments individually, build
up portfolios of attractive stocks and not consider how they related to each
other. Markowitz showed how it might be possible to better of these simplistic
portfolios by taking into account the correlation between the returns on these
stocks.
The diversification plays a very important role in the modern portfolio theory.
The theory also focuses on the benefits of diversifying the portfolio i.e.
investing in different asset classes like stocks, bonds, real estate, gold etc. It is
based on the underlying fact of ‘Do not put all your eggs in one basket’.
Markowitz approach is viewed as a single period approach. At the beginning of
the period the investor must make a decision in what particular securities to
invest and hold these securities until the end of the period. Because a portfolio
is a collection of securities, this decision is equivalent to selecting an optimal
portfolio from a set of possible portfolios. Essentiality of the Markowitz
portfolio theory is the problem of optimal portfolio selection

Markowitz Efficient Frontier :

The concept of Efficient Frontier was also introduced by Markowitz and is
easier to understand than it sounds. It is a graphical representation of all the
possible mixtures of risky assets for an optimal level of Return given any level
of risk, as measured by standard deviation

The chart above shows a hyperbola showing all the outcomes for various
portfolio combinations of risky assets, where Standard Deviation is plotted on
the X-axis and Return is plotted on the Y-axis.
The Straight Line (Capital Allocation Line) represents a portfolio of all risky
assets and the risk-free asset, which is usually a triple-A rated government bond.
Tangency Portfolio is the point where the portfolio of only risky assets meets
the combination of risky and risk-free assets. This portfolio maximizes return
for the given level of risk.
Portfolio along the lower part of the hyperbola will have lower return and
eventually higher risk. Portfolios to the right will have higher returns but also
higher risk. Markowitz Portfolio Theory (Modern Portfolio Theory or Passive
Investment Approach) is the base idea of the ways to wealth concept.
There are two main concepts in Modern Portfolio Theory –
a) Any investor’s goal is to maximize return for any level of risk.
b) Risk can be reduced by creating a diversified portfolio of unrelated assets.
Other names for this approach are Passive Investment Approach because you
build the right risk to return portfolio for broad asset with a substantial value
and then you behave passive and wait as it growth.
Subject Matter of the Markowitz Theory :
Before the development of Markowitz theory, combination of securities was
made through ‘simple diversification’. The layman could make superior returns
on his investments by making a random diversification in his investments.
A portfolio consisting of securities of large number will always bring a superior
return than a portfolio consisting of ten securities because the portfolio is more
diversified.
The simple diversification would be able to reduce unsystematic or diversifiable
risk. In securities, both diversifiable and un-diversifiable risks are present and
an investor can expect 75% risk to be diversifiable and 25% to be un-
diversifiable.
Simple diversification at random would be able to bring down the diversifiable
risk if about 10 to 15 securities are purchased. Unsystematic risk was supposed
to be independent in each security. Many research studies were made on
diversification of securities. It was found that 10 to 15 securities in a portfolio
would bring adequate returns. Too much diversification would also not yield the
expected return.
Some experts have suggested that diversification at random does not bring the
expected return results. Diversification should be related to industries which are
not related to each other. Many industries are correlated with each other in such
a way that if the stock of ‘X’ increased in price the stock of ‘Y’ also increased
and vice versa.
By looking at the trends, industries should be selected in such a way that they
are unrelated to each other. A person having on his portfolio about 8 to 10
securities will reduce his risk but if he has too many securities as described
above it would not lead to any gain.
If systematic risk is reduced by simple diversification, research studies have
shown that an investor should spread his investments but he should not spread
himself in so many investments that it leads to ‘superfluous (extra)
diversification’. When an investor has too many assets on his portfolio he will
have many problems. These problems relate to inadequate return.
It is very difficult for the investor to measure the return on each of the
investments that he has purchased. Consequently, he will find that the return he
expects on the investments will not be up to his expectations by over
diversifying.
The investor will also find it impossible to manage the assets on his portfolio
because the management of a larger number of assets requires knowledge of the
liquidity of each investment, return; the tax liability and this will become
impossible without specialized knowledge.
An investor will also find it both difficult and expensive to look after a large
number of investments. This will also have the effect of cutting into the profits
or the return factor on the investments.
Portfolio Analysis Page 7
If the investor plans to switch over investments by selling those which are
unprofitable and purchasing those which will be offering him a high rate of
return, he will involve himself in high transaction costs and more money will be
spent in managing superfluous diversification.
The research studies have shown that random diversification will not lead to
superior returns unless it is scientifically predicted. Markowitz theory is also
based on diversification. He believes in asset correlation and in combining
assets in a manner to lower risk.
Assumption of the Markowitz Theory :
Markowitz theory is based on the modern portfolio theory under several
assumptions.
i) The market is efficient and all investors have in their knowledge all the facts
about the stock market and so an investor can continuously make superior
returns either by predicting past behavior of stocks through technical analysis or
by fundamental analysis of internal company management or by finding out the
intrinsic value of shares. Thus, all investors are in equal category.
ii) All investors before making any investments have a common goal. This is
the avoidance of risk because they are risk averse.
iii) All investors would like to earn the maximum rate of return that they can
achieve from their investments.
iv) The investors base their decisions on the expected rate of return of an
investment. The expected rate of return can be found out by finding out the
purchase price of a security dividend by the income per year and by adding
annual capital gains. It is also necessary to know the standard deviation of the
rate of return expected by an investor and the rate of return which is being
offered on the investment. The rate of return and standard deviation are
important parameters for finding out whether the investment is worthwhile for a
person.
v) Markowitz brought out the theory that it was a useful insight to find out how
the security returns are correlated to each other. By combining the assets in such
a way that they give the lowest risk maximum return could be brought out by
the investor.
vi) From the above, it is clear that every investor assumes that while making an
investment he will combine his investments in such a way that he gets a
maximum return and is surrounded by minimum risk.
vii) The investor assumes that greater or larger the return that he achieves on his
investments, the higher the risk factor surround him. On the contrary, when
risks are low the return can also be expected to below.
viii) The investor can reduce his risk if he adds investment to his portfolio.
ix) An investor should be able to get higher return for each level of risk ‘by
determining the efficient set of securities’.
Markowitz Model :
Markowitz approach determines for the investor the efficient set of portfolio
through three important variables i.e. return, standard deviation and coefficient
of correlation. Markowitz model is called the ‘Full Covariance Model’.
Portfolio Analysis Page 8
Through this model the investor can, with the use of computer, find out the
efficient set of portfolio by finding out the tradeoff between risk and return,
between the limits of zero and infinity. According to this theory, the effects of
one security purchase over the effects of the other security purchase are taken
into consideration and then the results are evaluated.
Limitations of Markowitz Theory :
Based on the above assumptions, the limitations of Efficient Market Frontier
can be inferred as below -
1) The portfolio returns are not normally distributed but are heavily skewed on
the tails.
2) The investors are irrational. They believe in risk taking, expecting that higher
the risk, higher the returns.
3) In reality, the investors in the market have limited access to borrowing or
lending of money at risk free rate.
Types of risks :
The distinction between different types of risks is elaborated as under -
1) Unsystematic risk : Also known as specific risk, it is a measure of risk
associated with a particular security; also known as diversifiable risk. It is the
type of uncertainty that comes with the company with which you invest or the
industry where you invest. This risk can be mitigated by holding a diversified
portfolio of many different stocks in many different industries.
2) Systematic risk/ market risk : It is a risk faced by all investors due to
market volatility and this risk cannot be diversified away. This is the type of
risk most people are referring to when they casually use the term ‘risk’ when
discussing investments.
3) Political risk : It is the risk to an investment due to changes in the law or
political regime. Potential changes in tax law or changes in a country’s structure
of governance are sources of political risk.
4) Inflation risk : Stocks, bonds and cash are all subject to the risk that one’s
investment will not keep pace with inflation. This risk can be mitigated by
investing in inflation-protected Treasury bonds.
5) Financial risk : This risk is due to the capital structure of a firm. Corporate
debt magnifies financial risk to a company’s stocks and bonds.
6) Management risk : Investors using actively managed funds are exposed to
the risk that fund or portfolio managers will under-perform benchmarks due to
their management decisions or style. Investors can avoid this risk by selecting
passively-managed index funds.
7) Interest rate risk : It is the risk associated with changes in asset price due to
changes in interest rates. Bonds and bond funds face this type of risk. As
interest rates rise, prices on existing bonds decline and vice versa. Interest rate
risk is greater for bonds with longer maturities, and vice versa.
Portfolio Analysis Page 9
8) Credit Risk / Default Risk : It is the risk of default on account of non-
payment. Holders of corporate and municipal bonds face this risk.
9) Call risk : It is the risk that a bond issuer, after a decline in interest rates,
may redeem a bond early, forcing the bond holder to find a replacement
investment that may not pay as well as the original bond.
10) Reinvestment risk : The risk that earnings from current investments will
not be reinvested at the same rate of return as current investment yields. Coupon
payments from a bond may suffer reinvestment risk if they cannot be reinvested
at the same rate as the bond’s yield.
11) Currency risk : Investors in international stocks and bonds are also
exposed to the risk caused from changes in currency exchange rates.
Investments in currencies other than the one in which the investor purchases
most goods and services are subject to currency risks.
12) Longevity risk : It is the risk an investor will outlive his/her money.
13) Shortfall risk : It is the risk the portfolio will not provide sufficient returns
to meet the investor’s goal
14) Diversifiable Risk : This risk is Company Specific or Non Systematic and
is connected with the random events of respective company whose stocks are
being purchased. Diversification can reduce diversifiable risk. The good random
events influencing one stock will be cancel out by the bad random events that
influence another stock of the portfolio.
15) Market Risk : This risk is also called Beta Risk or Non-Diversifiable Risk
and is connected with socio-political and macro-economic events that occur on
global basis such as Macro Market Interest Rates, Inflation, War and Recession
etc. Market risk can never reduce through diversification.
Total Risk of Stock = General Risk + Specific Risk
= Market Risk + Issuer Risk
= Systemic Risk + Non Systemic Risk
Difference between Systematic and Unsystematic Risk

Relationship between risk and return :

The risk and return relationship form the entire basis of investment decisions.
Investors are risk averse; i.e., given the same expected return, they will choose
the investment for which that return is more certain. Therefore, investors
demand a higher expected return for riskier assets. Note that a higher expected
return does not guarantee a higher realized return. Because by definition returns
on risky assets are uncertain, an investment may not earn its expected return.
The risk in holding deviates from actual return from the expected return maybe
upward or downside. The mean (average) annual return increases as the
dispersion of returns increases.
Measurement of Risk and Return :
Risk is the uncertainty of future returns. Risk can be measured as the difference
between expected return and actual return. Expected returns are the anticipated
returns for a future period. Risk is measured as the difference between expected
return and actual realized return.
There are different techniques/tools of measuring risk -
1. Volatility :
Volatility is the range of price fluctuations as compared to the expected level of
return. The more the changes in price the more volatile a stock is. Volatility
brings uncertainty and hence greater risk. The past volatility data provides an
insight into the risk of a stock.
2. Standard Deviation :
This is the most common measure of risk in investments in terms of variance or
standard deviation. Standard Deviation indicates the likely volatility in the
returns from the mean value of returns. It can be either in the form of an
increase or a decrease from the mean.
3. Probability Distribution :
Probabilities indicate the likelihood of different outcomes and are in the form of
decimals. Past occurrences are taken to estimate the probability with
consideration for any changes expected in the future. To determine the single
most outcomes from a specific probability distribution, the expected value is
computed. Expected return or Ex-ante return is the mean return found by using
probability distribution of expected return.
Diversification of Risk :
Risk can be reduced through diversification.
a) The risk of investing in a single risky security, such as a stock or corporate
bond, is very high due to the company-specific risks. Any number of
unfortunate events could impact the rate of return. In the worst possible case,
the company could go bankrupt, and the investor could lose the entire value of
the investment.
b) Company-specific risk is generally referred to as unsystematic risk or
nonsystematic risk. Other names are unique-risk, firm-specific risk, or
diversifiable risk.
c) Unsystematic risk can be eliminated by holding a broad portfolio of risky
assets; e.g., many different securities in many different industries. This is easy
to accomplish by owning a total market stock or bond index fund. Unsystematic
risk is risk that can be diversified away.
d) The risk that remains after diversifying away unsystematic risk is systematic
risk. Other names are market risk or non-diversifiable risk. A total stock or bond
market fund has systematic risk. In an efficient market, assets with known
systematic risks will be priced lower and thereby compensate investors through
higher expected returns. This expected relationship only applies to systematic
risks. There is no reward for incurring unsystematic risk, and investors may
therefore seek broad diversification without reducing the expected return of
their portfolio. After diversification, the next step in managing portfolio risk is
asset allocation.
Portfolio Analysis :
At some time in the future, the actual return will be one of many possible
outcomes. The various outcomes have some probability of occurring. The
expected return is just the average of these possible returns weighted
(multiplied) by the respective probabilities of occurring. Standard deviation of
annual returns is most useful for measuring risk over shorter time periods. For
measuring risk over longer time periods, the dispersion of possible cumulative
returns is a better measure of risk. This is because over many years, a relatively
small difference in annualized rate of return can result in a large difference in
cumulative returns. The cumulative return on your investments at a specified
future time is referred to as terminal wealth. The dispersion of possible terminal
wealth is referred to as terminal wealth dispersion.
a) The collection of multiple investments is referred to as portfolio. Mostly
large size organizations and also some individuals maintain a portfolio of their
different investments and hence the risk and return is considered as the entire
portfolio risk and return. Portfolio may be composed of two or more bonds,
stocks, securities and investments or combination of all.
i) This is because trading individual securities creates costs - brokerage costs,
bid-ask spreads and price impact
ii) There is a critical mass value, below which it does not pay to actively
manage a portfolio - it is far better to invest in funds.
iii) The larger a portfolio, the more choices become available in terms of assets
- this is largely because some components of trading costs - the brokerage costs
and the spread - may get smaller for larger portfolios.
iv) If a portfolio becomes too large, it might start creating a price impact which
might cause trading costs to start increasing again.