Purpose: The main purpose of the article is to provide readers with a nontechnical introduction to the modern portfolio theory. This research article is aimed at offering an understanding of the basics of risk measurement.
Scope: The article provides a concise overview of measuring risk in business decisions. Different forms of risks and the ways to tackle them are introduced in this article.
Classification: Normative, literature article.
Findings/Inferences: The research review article is aimed at investigating the different ways of measuring rick and its relationship with returns on investment in financial decision making. The article has investigated the broader concept of risk and provided an overview about the understanding of foundation according to which risk is measured. Different studies have been referred to in the article to verify different assumptions and hypothesis made during the research review. The sample for the study was selected from a broadest possible range of security beta values. The data for this study was provided by the Center for Research in Security Prices, University of Chicago. A variety of test have been applied to the data. The results have then been systematically compared to financial models to draw accurate inferences. Following are the few inferences that have been drawn as a result of this research review study:
There is an assumption made in financial decisions that portfolio return is real. The study has concluded that the assumption is true because there is a random manner followed by security returns over the time.
If two securities have a significant correlation, their return patterns will reflect the correlation. In the same manner if there is a negative correlation between securities, the return patterns will have a negative correlation.
It is verifiable through a mathematical relation that the total risk is equal to the sum of systematic and unsystematic risks. All the variables are measured in variance.
The risk premiums equals zero by definition.
The study provides a very conservative view of the degree of beta coefficient stationary. It is not factually possible to correlate true beta values. So estimates are used that might contain measurement errors.
Since portfolio return and (systematic) risk are simply weighted averages of security values, risk-return relationships which hold for securities must also be true for portfolios, and vice versa.
There is no evidence of a non-linear significant relationship of risk and return variables.
Systematic and unsystematic risks, both have a significant positive relation with security return. There were some statistical discrepancies found in the relation between security return and unsystematic risk.
The research has suggested that investors in high beta stocks expect correspondingly high rates of return.