Understanding Modern Portfolio Theory (MPT) Using Python
MPT on Selected Stocks
Introduction
We usually tend to maximize our profit when we invest in an asset. Let's see we buy stock and wait for its price to increase so that we can make a profit by selling. Chances are that the price goes down sometimes and we incur a loss. One way of avoiding this situation is not just buying one stock but creating a portfolio of more than one stock in such a way that when the price of one stock goes down the price of another should go up to balance the portfolio and overall we are averse to the risk of losing on our investment. However, if we choose stocks in our portfolio in such a way that their prices go down together then we are at a greater risk of losing money in the event of prices going down since all of them go down together.
It becomes clear that the selection of the stocks in our portfolio matters and we need to be careful in choosing the components of the portfolio. Another question we try to address is the weightage of the stocks we have in our portfolio. However, we give up some potential return on our investment in order to lower the risk of losing money if we construct our portfolio in this way. What is the efficient way of creating such a portfolio is addressed by the Modern Portfolio Theory proposed by American Economist Harry…
