What Is Modern Portfolio Theory?
By Vivian Atud
Modern portfolio theory was introduced in 1952, in an article by Harry Markowitz. It has been enormously impactful in shaping the thinking behind how people construct portfolios. Like any theory, it’s not perfect, but its insights have helped the evolution of finance significantly. SunburstAfrica has benefited from the ideas that comprise modern portfolio theory. Sign up to know more!
Essentially, modern portfolio theory suggests that investments should not be considered on a stand-alone basis, but in terms of what they bring to the portfolio. For example, an investment that tends to rise when another falls, might be very useful in helping construct a portfolio that is balanced over time. This demonstrates why bonds can be an attractive investment. Historically, bonds have offered good returns but often less than stocks. As such you might be tempted to construct a portfolio entirely from stocks because performance is better. However, modern portfolio theory suggests that would be a mistake. When stocks fall, bonds often rise. So if you have bonds in your portfolio returns are likely to be more stable over time. In addition, bonds may enable you to rebalance in to stocks when they are particularly cheap, potentially boosting returns. This is one of the insights we use when constructing portfolios at SunburstAfrica. Click here and let our advisors assist you with your investment portfolio.
Modern portfolio theory is not perfect. Much emphasis is made on historical correlations, which aren’t always that reliable in predicting future correlations. That’s why at SunburstAfrica, we also consider different economic scenarios and how they might impact investments, even if those scenarios haven’t been particularly common in the recent past. If you’d like to see how SunburstAfrica puts Modern Portfolio Theory into practice, fill our contact form and one of our advisers will get back to you in under 48 hours to help you set up your own portfolio