As a Research Analyst for UMUC Portfolio Management Group, I was tasked with the responsibility of developing a high-risk portfolio for a wealthy investor. While this might sound elementary to some, constructing a portfolio, which is both, high-risk, yet profitable is an arduous endeavor. Furthermore, by nature, I am a value investor; some would say a passive investor. In other words, such a mission ran contradictory to my innate mind-set. Over fifteen business days, myself, along with other analysts from the firm, each fashioned a test portfolio. Thereafter, the analyst with the most successful portfolio would earn the right to manage the wealthy investor's assortment of finances. Truth be told, you can put the time and effort in as far as preparation for which stocks are best and from which sectors. However, if the market has a bad week then so does your selections. That being said, each analyst encountered the same market fluctuations, therefore, your stock selections will in fact identify the cream of the crop. Utilizing different formulas, analysis, rankings and other performance rankings you will see first-hand how my test portfolio performed. As a footnote, the 4-week T-Bill served as the basic guideline for which the portfolio would be measured against.
Opening Statement
The purpose of the Portfolio Management Project is to provide the Board of Directors with rational as to why my test portfolio was constructed in such a manner, along with supporting rational in the form of ratios and the like. As mentioned above, over a fifteen-day period, a select group of analysts were tasked with the challenge to create a test portfolio worthy of our new client. The following report will highlight the key strengths and weaknesses of my portfolio; along with its performance and results from the fifteen-day test period.
Portfolio Composition
I will begin by reviewing the composition of my portfolio. Each analyst had to build their portfolio from stocks, funds, etc. not listed on the S&P 500 Index. While, not every analyst followed these instructions, my portfolio did in fact adhere to these guidelines. That being said, the five securities within my portfolio are the following: BLDRS Emerging Markets Fund (ADRE), Alliancebernstein Global High Income Fund (AWF), Market Vectors Junior Gold-Miners (GDXJ), Barclays Capital High-Yield Bond (JNK), and PetroChina, Ltd. (PTR).
BLDRS Emerging Markets Fund (ADRE) opened in November 2002 and is located in the PowerShares fund family. Specifically, it is an Exchange Traded Fund (ETF) designed to provide value growth on a large scale basis. The fund is made up entirely of stocks and four sectors; basic materials, communication services, energy, and financials make-up 77%. ADRE's current dividend yield is 1.65% and has net assets of $625.63 million (Yahoo Finance).
The Alliancebernstein Global High Income Fund (AWF) began in July 1993 and is located in the financial sector. AWF is a closed-ended fixed income mutual fund and is designed to provide growth on a large scale basis. The fund invests in the fixed income markets across the globe. The fund invests in fixed income securities like sovereign debt obligations issued or guaranteed by foreign governments. AWF current dividend yield is 7.40% and has a market cap of $1.25 billion (Yahoo Finance).
Market Vectors Junior Gold-Miners (GDXJ) began trading in November 2009 and is part of the equity precious metals category. GDXJ is also an ETF and is labeled as a medium-growth fund. The index tracks the overall performance of foreign and domestic publicly traded companies of small- and medium-capitalization that are involved primarily in the mining for gold and/or silver. The fund is non-diversified. GDXJ current dividend yield is 7.64% and has net assets of $2.34 billion (Yahoo Finance).
The Barclays Capital High-Yield Bond (JNK) began trading in November 2007 and is a high-yield bond belonging to the state street global advisors family of funds. JNK is too an ETF and its 95% of its holdings are bonds with ratings of BB or lower. JNK's current dividend yield is 8.79% and has net assets of $7.25 billion (Yahoo Finance).
PetroChina, Ltd. (PTR) belongs to the basic materials sector and is traded as a stock. PTR primarily engages in the exploration, production, and sale of crude oil and natural gas primarily in the People's Republic of China. PTR has a current dividend yield of 3.00% and a market cap of $263.44 billion (Yahoo Finance).
Composition Rational (Based on Past Performance & Industry/Sector Analysis)
First and foremost, let me explain my lucidity for composing such a portfolio. As noted above, the choices could not be part of the S&P 500. Moreover, they had to be high-risk funds. There is a fine line between investing in high-risk securities anticipating positive returns and simply gambling and opting for the security with a greater chance of going belly under than providing any profit. In other words, you can speculate and make calculated decisions or you can take your test portfolio to Vegas and hope for the best.
The Emerging Markets Fund (ADRE) was my first selection. ADRE is one of the stronger ETF's in the Emerging Markets Sector. Over the last 5 years, ADRE has provided a return of 10.19% compared to the sector providing a 9.27% return (Yahoo Finance). The following quote from seekingalpha.com, is why I chose ADRE; "The market cap of the MSCI Emerging Market Index has grown 200% in the last 5 years beating all other broad indices . . ." - enough said.
The Alliancebernstein Global High Income Fund (AWF) is the oldest of my selections. Since its inception, AWF has provided a return of 13.22%. To put that in perspective, if you had invested $10,000 in 2001, your $10k would not be worth $41,055. Furthermore, AWF is one of the industry leaders in market capitalization and profit margin. The chart below details the capital gained by AWF compared to its sector and the S&P.
Legend: S&P=Green, Sector = Light Blue, AWF = Dark Blue, Dow Jones = Pink
Market Vectors Junior Gold-Miners (GDXJ) has provided a mind-boggling 46.92% return since November 2009. Moreover, during the past year, GDXJ provided investors with 67% return on their investment. That being said, the sector (precious metals) has provided a 49% return. Nevertheless, GDXJ has beaten the industry by 18% (CNN Money). Please note in the chart below, initial evidence as to why GDXJ was added to the portfolio.
The Barclays Capital High-Yield Bond Fund (JNK) was probably the riskiest of the portfolio. As I previously noted, JNK invests in high-risk bonds from quasi-developing countries such as; Argentina, Brazil, et al. During the past 3 years JNK's return has been 9.12% with an YTD return of 3.33%. The high-yield bond sector has produced a 6.37% return during the same 3-year period. So again, I believed I had selected a solid fund.
Finally, PetroChina, Ltd. was a stock, which I believed was a good purchase. Before the financial crisis of 2008 and 2009, the spring and summer of 2007 was a terrific time for oil stocks. When I designed this portfolio, there again, a barrel of oil was on the up and up. PTR, during the last 5 years, has provided a 28% return with an YTD return of nearly 10%. The industry itself has provided a return of 20% return and only Exxon Mobil has provided a greater return. As you can see, in the following chart, PTR compared favorably against XLE - a sector fund.
To provide further insight into the funds selected, I will review some of the modern portfolio statistics, such as; the Sharpe Ratio, Alpha, and Beta as well as other relevant data. ADRE had a Sharpe ratio of 0.10, an Alpha of 2.90, and a Beta of 1.10. These numbers are respectable when compared against the related index. AWF had a Sharpe Ratio of 0.69 and a Beta of 0.88. GDXJ's is a relatively new fund and therefore, difficult to asses its Sharpe Ratio and Beta. GDXJ has a P/E number of 16 and a price/book number of 2.52 - very solid numbers. JNK has a Sharpe Ratio of 0.54, an Alpha of 2.86 and a Beta of 1.51. Finally, PTR registered the following stats; P/E of 12.40 and a price/book of 1.84
Portfolio Performance
The facts are evident in the numbers; the portfolio did not perform well over the fifteen-day test period. The portfolio loss (1.76%) for the test period, while this is not a substantial loss - it is still a loss. However, PetroChina, Ltd. (PTR) was the impetus behind the loss - suffering a loss of (3.65%). The big winner for the test portfolio was the Global High Income Fund (AWF); registering a gain of 0.90%. The Junior Gold-Miners Fund (GDXJ) was a close second - coming in at 0.88%. The chart below details the gains and losses for the test portfolio.
During the same test period, the S&P 500 Index and the 4-week Treasury bill also did not perform well. The S&P gained a modicum amount - 0.06%. The Treasury bill rates varied between 0.13% and 0.12%. While the rate on the T-bill decrease nearly 8%, it's so much relevant because if you had invested in the T-bill at the beginning of the test period, you would have earned a better return.
The chart below details the overall gains or losses for the test period.
Risk-Return Analysis
When constructing a portfolio, I believe it is prudent to balance both risk and return. Regarding this portfolio, in order to capture the objective of developing the assigned portfolio you had to demand high-risk and high-returns. While those two objectives usually go hand and hand, they could also react like oil and water and result in high-risk and substantial losses. The assignment, for all of the analysts, was difficult and those who succeeded should be commended.
Let us first review the risk associated with ADRE. According to riskgrades.com, ADRE had a risk grade of 87. In comparison, AWF was given a risk grade of 54. GDXJ came in at 193, JNK at 35, and PTR at 129. This is where the portfolio confused me. The Barclays Capital High-Yield Bond (JNK) is comprised of bonds, from economies not on the scale of the United States, with ratings of BB or lower. Now bonds, on the whole, are not as risky as securities but these bonds are considered junk bonds, which are the diciest. On the contrary, PetroChina, Ltd. (PTR) was my second riskiest security, yet, it is the largest oil company in China and one of the leaders in the energy sector.
The portfolio as a whole only garnered a risk grade of 73. In other words, I thought I was building a high-risk, high-return portfolio; in all reality I built a growth portfolio. As you can see, from the chart below, my portfolio was on the wrong side of the bell curve. Translation, 99% of the stocks in the S&P are riskier than my portfolio.
Future Performance
The future performance of my portfolio is truthfully one I where I would invest my own funds. Take PetroChina, Ltd. for example - until we find other reliable and dependable energy sources, oil will be in demand. PTR is ranked in the top half of many important financial categories, including; market cap, P/E ratio, revenue growth, and return on equity (Yahoo Finance). PTR, as previously noted, is also the largest provider of crude oil in China - the world's most populated country.
One quote from seekingalpha.com confirms my optimism related to ADRE and the emerging markets sector; "almost half of the global GDP growth comes from developing countries." Based on history we can presume, the global economy will eventually claw its way out of this current static growth stage and ADRE should be there to profit.
As far as precious metals are concerned, specifically, my Junior Gold-Miners fund (GDXJ), gold has continued to increase in price since 2008. Also, concern for future inflation is one factor driving precious metals prices higher. Holding metals is a way of allocating portfolio risk during times of economic uncertainty and war, and when inflation threatens currency values. To many people in this dynamic environment, buying metals represents a safe-haven approach to diversification and a partial hedge against equities (Sanibel, 2010).
Lastly, my last two choices AWF and JNK provide very different prospective returns. Based on history - AWF is a solid mutual fund. Over 30% of the fund is invested in sovereign debt and as Amy Calistri notes, ". . . AWF is as steady as they get, having spewed out monthly paychecks for nearly 17 years. Since its 1993 inception, this closed-end fund has delivered an average annual return of 12.0%." Concerning JNK, my complete trust does is not embedded in this fund nor in junk bonds in general. If you consistently invest in speculative funds, then you are bound to realize substantial losses. Nevertheless, it was a good fund to have for my test portfolio but I would not want to keep the fund for the long-term. It emphatically goes against my value investing mentality.
Recommendation
A recommendation to myself would be quite simple, honestly. First and foremost, I would begin with the portfolio composition; while I thought I composed a relatively risky portfolio, I was wrong. I would utilize riskgrades.com or the like to value the risk on my portfolio. Next, I would pay better attention to my portfolio and trade the dogs and perhaps adjust the allocation to the winners. Finally, I do not believe I would diversify the portfolio so well. Due to the diversification, I decreased my risk, thus decreasing my potential of large returns.
Conclusion
The test portfolio was not my best work. From the beginning, the undertaking went against my natural investing principles. Not to be understated, I was a novice investor with elementary knowledge and experience and in hindsight was not prepared for such a chore. That being said, a job is a job, as is a challenge, and I did my best to motivate myself to tackle such an assignment.
Let me start with the obvious - I was required to trade one of the securities and did not. Rather my ego got in the way or my lack of attention to detail, I did not trade any of the securities. If I could rewind the clock, I would have done away with PetroChina, Ltd. not because it is a bad stock - I think it really is a wonderful position - but it truly is not a high-risk stock. Furthermore, if I would have tracked my investments better, I could have dumped JNK. As previously noted, JNK has an YTD return of 3.33%, I simply invested in the fund during a down time.
In closing, I failed; not necessarily due to my selections but because I did not devote a full effort to the portfolio. Perhaps, not as bad as other analysts (I am curious to see everyone's returns, especially those who followed the rules) but I failed the company, my potential client, and myself. The entire process was a learning experience - one I will remember for the duration of my working career. I can assure you, should I be asked to design a similar portfolio in the future, I will in fact put together a masterpiece.
