Modern Portfolio Management: Factors Affecting Risk, Portfolio Allocation, Return Calculation, Industry Analysis of Apple

This article covers various topics related to Modern Portfolio Management, including factors affecting risk, portfolio allocation, return calculation, and industry analysis of Apple. It also includes a case study on Hugo's contribution plan. The content is relevant to subjects related to finance and investment management.

Modern Portfolio
Management

TABLE OF CONTENTS
QUESTION 1...................................................................................................................................3
a. Identifying two factors which affect Maggie ability to take risk............................................3
b. Explaining two problem relating to existing allocation of her portfolio.................................3
c. Calculating the return requirement of the Maggie’s investment portfolio..............................4
d. Identifying liquidity requirement, time horizon and unique circumstances...........................4
e. Hugo case relating to contribution plan..................................................................................5
QUESTION 2...................................................................................................................................5
a. Calculation relating to 1 year and 2 years forward rate..........................................................5
B..................................................................................................................................................6
QUESTION 3...................................................................................................................................7
a. Conducting industry analysis..................................................................................................7
b. Computing intrinsic value of company by using Dividend discount model and two ratios
under relating valuation technique along with assumption.........................................................9
c. Selecting one ratio calculated and explaining the weakness of relative valuation technique
...................................................................................................................................................10
REFERENCES..............................................................................................................................11

QUESTION 1
a. Identifying two factors which affect Maggie ability to take risk
There are many different types of factors which affects the risk taking capability of the
investor. This is pertaining to the fact that the investment and its return depends on the market
changes and these are not in hand of people (Hoffmann, Ahlemann and Reining, 2020). Hence,
for this it is essential for them to analyse these factors and ensure that it does not make a negative
impact over the risk taking capacity of the investor. The two factors that affect the Maggie’s
ability to take risk is as follows-
 The first factor that affect the risk taking capacity is the age and time to retire. This will
be affecting the risk taking capacity as currently she is 50 years of age and is retiring after
10 years. So it might be possible that the risk taking capacity of Maggie reduces and she
might not take more risk by investing in riskier investment options.
 Along with this, another factor affecting the risk tolerance capacity of Maggie is the
investment time frame. This is necessary for the reason that Maggie is having limited
time in retirement and within that she has to attain the target of arranging US$10 million
for all the three children so that she can give it to their children when she dies.
b. Explaining two problem relating to existing allocation of her portfolio
For getting better return and being successful it is very important for the investor that
they allocate the portfolio in better and effective manner. This is because when the distribution of
the asset will be rationally correct then this will be providing better returns. Thus, the problem
associated with the portfolio allocation of Maggie are as follow-
 The major problem associated with the allocation is the time horizon because of the
reason that this allocation cannot be stable for the whole duration of investment (Bansal,
Gutierrez and Nagarajan, 2021). This is necessary because it is not possible that all the
time the selected ratio will be same for every time.
 Another problem associated with the allocation of the portfolio was the risk tolerance
capacity. This is particularly because of the reason that Maggie is having moderate level
of market volatility and this implies that risk taking capacity is moderate and in case it
would be higher than more return can be generated.

c. Calculating the return requirement of the Maggie’s investment portfolio
Asset classes Weight Return Weight*return
Cash 30% 10.80% 0.0324
Large- cap stock 30% 10.80% 0.0324
Small- cap stock 20% 10.80% 0.0216
Tesla (TSLA.US) 20% 10.80% 0.0216
Total portfolio return 0.108
10.8 %
Hence, the total return which the overall portfolio will be providing to Maggie is 10.8 %
and this is good. This is pertaining to the fact that when the return will be provided by the whole
portfolio then this will be beneficial for the investor and is profitable.
d. Identifying liquidity requirement, time horizon and unique circumstances
The portfolio is the one which includes the different investment option for the person to
have good return in future. This is very important for the reason that in case the return of the
portfolio will not be good then this will be affecting the future of the person. There are many
different constraints which affect the portfolio and its return to a great extent. With the success of
the portfolio there are many different types of constraints to be considered which are as follows-
Liquidity requirement
The liquidity is being defined as the capability of the asset to be converted into cash
easily and quickly. This is very important for the reason that in case the assets will not be
converted into cash then the portfolio will not be beneficial. This is necessary for the reason that
in case cash availability is not there then some asset from the portfolio can be sell. Hence, for
assessing the liquidity, it is necessary for Maggie that she separate all the living expenses and
planned outlays and assess the ease and cost and certainty through which the asset can be
changed into cash (Butler, 2022). The liquidity requirement is less as Maggie is in condition to
meet the expenses within the salary only. Hence, in the present case the liquidity risk is very low
and this is good as more return can be gained from portfolio.
Time horizon
The time horizon is being referred to as the remaining time for which the person will live.
This is very important for the reason that in case time horizon will not be decided then the return
cannot be calculated. Hence, in the present case the time horizon is approximately 80 years of

life that is currently Maggie is 50 years and after 10 years she will retire. Hence, the time horizon
for the portfolio is 60- 80 years.
Unique circumstances
While deciding for the portfolio it is also necessary for the investor to look for the unique
circumstances as well. this will include the planned gifts, constraint against certain investment,
socially responsible investing, concentrated holding of company stock and many other different
situations (Ramenskaya and Savchenko, 2019). In the present case of Maggie, the circumstances
involve gifting US$10 million to all the three children.
e. Hugo case relating to contribution plan
i
On comparison it is clear that defined benefit plan is the which provides the employees
with guaranteed income for the whole life when they retire. During the employment, employees
have little control over the fund as they receive this amount after they retire. On the other side,
defined contribution plan is the which is being funded by the employee. The most common type
of defined contribution plan is 401 k. from both these plan, defined benefit plan is very beneficial
because is kind of traditional pension plan only and this provides the employees with a specific
amount after retirement and will be more suitable to Hugo.
ii
The characteristic of defined benefit is as follows-
 both employer and employee contributes to the fund and this is advantageous to Hugo as
they have also get the contribution of the company.
 in this case employer bears most of the investment risk which is beneficial to Hugo as his
risk will be low.
QUESTION 2
a. Calculation relating to 1 year and 2 years forward rate
1 year
Fn= (1 + YTM) n/ (1+ YTMn-1) n-1 – 1
4.5%
(1 + 0.045) 3/ (1+ 0.054 3-1) 3-1
(1.045) 3 / (1.054) 2 – 1

= 1.141166/ 1.110916 – 1
= 1.02723 -1
= 2.722%
2 year forwards rate one year from now
Fn= (1 + YTM) n/ (1+ YTMn-1) n-1 – 1
4.5%
= (1 + 0.045) 2/ (1+ 0.054 2-1) 2-1
= (1.045) 2 / (1.054) – 1
= 1.092025/ 1.054 -1
= 1.036077 -1
= 0.036077
= 3.607685 %
B
i. Calculating Macaulay duration
Macaulay duration is a type of weighted average of time for receiving the cash flow from the
bonds. The formula of calculating the Macaulay duration is as follows-
Within this formula
T is respective time period
C is periodic coupon payment
Y is periodic yield
N is total number of period
M is maturity value
Current bond price denotes the present value of cash flows
After placing all the values, the calculated Macaulay duration is 2.7831
ii. YTM increases to 10%
Modified duration= Macauley duration/ (1+ YTM/n)

= 2.7831/ (1+ 10%/ 3)
= 2.7831/ (1+ 0.033)
= 2.7831/ 1.033
= 2.694192
iii. Duration is not a good estimate on price of bond
Through bond duration the likelihood of amount of change in the bond prices when the
interest rates fluctuate. Through bond duration calculation the risk associated with the interest
rate is computed. There is a relationship between the interest rates and price of bonds. There
exits an inverse relationship between the two meaning interest rate and bond price moves in
directions opposite to each other. A rise in interest rate brings about fall the bond price. And a
rise in bond price initiates a decline in the interest rate (Rajabi and Bheiry, 2020). The unit in
which duration is measured for consideration is year. Thus the relevancy is that higher the
attached duration with the bond longer will be the wait to get the payments in the form of
coupons and principal return and the price of the bond will fall more as the interest rates increase
over the years.
The duration entails its affect over the price of the bonds. If there is 2 % change in the
interest rates either increase or decrease will affect the bond price approximately 2%. The
duration is good estimate for the bond price estimation due to this relationship. Professional
finance personnel use the estimate to attract the investors. Coupon rate is the major component
that is required for calculation of the time duration. If the coupon rate is higher the bond duration
is inverse meaning it will be lower. So in conclusion the duration of bond is an essential measure
while the calculation of bond prices is carried.
QUESTION 3
a. Conducting industry analysis
Apple has gained the success as it is one of the most valuable company in the world. Porter's five
forces helps the company to understand about the industry position and comparison with
competitors. The five forces analysis of the company is described as below:
▪ Competitive Rivalry: Competitive rivalry used to determine the strengths of the
market rivals and its influence on company. The company has the strong

competitive rivalry or competition in the market. Competition in this organization
is fierce because these type of firms are aggressively competing with each other in
the market.
▪ Bargaining power of buyers: The bargaining power of the customers is from low
to moderate. As it is the reputed firm and used to sell the high quality of products,
so they do not compromise in the pricing. The organization used to invest in R&D
which helps them to provide the new products to the people.
▪ Bargaining power of suppliers: The bargaining power of the suppliers is low as
the company used to sell the quality of products. This component of the five
forces helps to analyse the influence of the suppliers in imposing the demand on
the organization and on its competitors (Porter’s Five Forces Analysis of Apple in
detail, 2022). As the company used to sell the unique product so the there is less
bargaining power from the suppliers. The switching cost for the organization from
one supplier to another is low.
▪ Threat of substitutes: Substitutes products are the products which can be used in
the absence of another product. In the case of Apple, the threat of substitutes
products is very low because there are limited features in the other products as
compare to Apple's products. This will help the company to sell its products in the
market with the high prices as people are more concerned with this brand.
▪ Threat of new entries: The new entrants are the same type of organizations who
wants to enter the market. In case of Apple, the threat of new entrant is experience
is low to moderate. As in order to enter this market the entrants requires the high
capital requirements in order to establish company and develop brand image.
They have to do R&D of the market in order to develop the products in the
market. The new entrants threat is very low to the company as the cited
organization has its own brand image in the market.
Along with Porter five forces, for Apple to analyse the industry competitiveness the use
of industry life cycle is also very beneficial. This is pertaining to the fact that the industry
lifecycle is also helpful in analysing the stage where company is currently working and in case it
is not good then this will be improved (Richardson and Jackson, 2018). Currently Apple is

working at the stage of maturity wherein the company has attained a good market share and
consumer satisfaction. Hence, it is necessary for Apple to maintain this stage as after that decline
will come which is not good for the company.
Product Cycle of Apple: Product cycle is the series of stages that the product passes
through. The stages involved in the product cycle of company are design, manufacturing, usage/
re usage, collection, transportation, recycling, material replacements, energy and landfill.
The products at apple are designed keeping sustainability at priority. Then the designed
product is manufactured. After that the product is used by the technicians, once the proper
quality and functioning is ensured, it is transported in the market analysing the trend in the
market. Product is recycled. The parts that cannot be recycled are replaced. Energy is used to
treat it as a combustible fraction. The waste management department of the company strives to
eliminate the use of landfills.
b. Computing intrinsic value of company by using Dividend discount model and two ratios under
relating valuation technique along with assumption
Dividend Discount Model
Value of Share
(Expected Dividend Per Share)/(Cost
Of Capital Equity - Dividend Growth
Rate) $17.07
Expected Dividend Per Share
(Total Dividends Paid Out in 2021 -
Any Special Dividends) / (Shares
Outstanding) 0.8806957
Cost Of Capital Equity
Apple WACC - Weighted Average Cost of
Capital, 2022 7.90%
Dividend Growth Rate
(Dividend Distributed in 2021/
Dividend Distributed in 2020) - 1 0.02741283
Dividend Paid in 2021 14467000
Shares Outstanding 16426786
Dividend Paid in 2020 14,081,000
Particulars Formula Value
Price Earnings Ratio Share Price/Earnings Per Share
28.72663
1
Share Price 162.88
Earnings Per Share 5.67
P/B Ratio Market Price Per Share/Book value per share
42.40917
6

Market Price Per Share 162.88
Book Value Per Share
Common Stock Equity/Ordinary Share
Number
3.840678
3
Common Stock Equity 63090000
Ordinary Share Number 16426786
With the analysis of the calculation it is clear that the value of stock is different with help
of each and every method. with the help of the price earning ratio the value of stock was 28.72
and with help of price to book value ratio was 42.40. On the other hand, with help of the
dividend discount model the value of stock was 17.07. This simply implies that value of stock is
different from in every method (Erzaij, Hatem and Maula, 2020). But the most accurate value is
being based on the dividend discount method. this is pertaining to the fact that the dividend
growth rate tends to be predictable and is also very consistent so it provides more realistic view
of the value of stock.
c. Selecting one ratio calculated and explaining the weakness of relative valuation technique
Price Earnings Ratio when used as a measure of computing the intrinsic value of shares
of Apple provides certain weaknesses. Market price of the share is easy to get but the
determination of earnings becomes difficult while calculating price earnings ratio. For
calculation of the price earnings ratio of Apple the investors must require adequate knowledge
regarding the defining of earnings that the company uses and the relative factors that affects the
earnings of the company (Platanakis and Urquhart, 2019). The other weaknesses that are related
to the ratio calculation of the company is that if the market prices are volatile the price to
earnings ratio gives short term view regarding the share value. Due to this reason the company
faces problem in determining the appropriate price earning ratio.
The determination of earnings makeup for the company are difficult often. Another
drawback is that the calculations are based on taking the historical values. And the historical
values are not useful enough from the perspective of investors are these past values do not say
much details about the future earnings. The investors are more concerned about the future
earnings. Further the next weakness is that the growth in earnings are excluded from the price to
earnings ratio. This is the major drawback for the investors they cannot get to know about the
growth rate of their investments.

REFERENCES
Books and Journals
Bansal, S., Gutierrez, G. J. and Nagarajan, M., 2021. Theory-driven practical approach to
integrate R&D and production planning for portfolio management in
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Butler, M. J., 2022. Project portfolio management practices-a theoretical base and practitioner
guidelines. International Journal of Project Organisation and Management. 14(1). pp.65-
88.
Erzaij, K. R., Hatem, W. A. and Maula, B. H., 2020. Applying Intelligent Portfolio Management
to the Evaluation of Stalled Construction Projects. Open Engineering. 10(1). pp.552-562.
Hoffmann, D., Ahlemann, F. and Reining, S., 2020. Reconciling alignment, efficiency, and
agility in IT project portfolio management: Recommendations based on a revelatory case
study. International journal of project management. 38(2). pp.124-136.
Platanakis, E. and Urquhart, A., 2019. Portfolio management with cryptocurrencies: The role of
estimation risk. Economics Letters. 177. pp.76-80.
Rajabi, S. and Bheiry, S., 2020. Portfolio Management for Construction Company during Covid-
19 Using AHP Technique. International Journal of Industrial and Systems
Engineering. 14(11). pp.1053-1063.
Ramenskaya, L. and Savchenko, Y., 2019, January. Development of portfolio management
system in R&D: a case study. In 2nd International Scientific conference on New
Industrialization: Global, national, regional dimension (SICNI 2018) (pp. 411-415).
Atlantis Press.
Richardson, G. L. and Jackson, B. M., 2018. Project management theory and practice. Auerbach
Publications.
Online
Apple WACC - Weighted Average Cost of Capital. 2022. [Online]. Available
through:<https://valueinvesting.io/AAPL/valuation/wacc>
Porter’s Five Forces Analysis of Apple in detail. 2022. [Online]. Available through:
<https://www.marketing10.in/porters-five-forces-analysis-of-apple-in-detail/>