Welcome to Scribd, the world's digital library. Read, publish, and share books and documents. See more
Download
Standard view
Full view
of .
Look up keyword
Like this
0Activity
0 of .
Results for:
No results containing your search query
P. 1
Case Against Stock Picking3

Case Against Stock Picking3

Ratings: (0)|Views: 0|Likes:
Published by wiggy223

More info:

Published by: wiggy223 on Dec 27, 2011
Copyright:Attribution Non-commercial

Availability:

Read on Scribd mobile: iPhone, iPad and Android.
download as DOC, PDF, TXT or read online from Scribd
See more
See less

12/27/2011

pdf

text

original

 
The Case against Stock PickingCharles J. Higgins, Ph.D.Dept. of Finance and Computer Information SystemsLoyola Marymount UniversityOne LMU Dr.Los Angeles, CA 90045-8385310 338 7344chiggins@lmu.edu November 13, 20033
nd
Draft
 
The Case against Stock Picking
This paper brings together various topics in finance—theCapital Asset Pricing Model, Portfolio Theory, the empiricalevidence, and the Efficient Market Hypothesis—to addresswhether individual security selection—Stock Picking—is or isnot a meritorious venture.
INTRODUCTION
The temptation to select specific securities is strong. The temptationflows from the belief that either one has superior insights/research and/or that one contemplates specific approaches to portfolio development with aneye toward a peculiarly beneficial return to risk. There are number of reasons why such temptations should be minimized. The reasons can beshown graphically using the Capital Asset Pricing Model, statistically usingPortfolio Theory, empirically using historic evidence and tests, andfunctionally using the Efficient Market Hypothesis.
 
GRAPHICAL DEMONSTRATION
Superior portfolio construction is generally measured in terms of agenerated or expected total return (income plus gains/losses) versus anexperienced or contemplated risk. Securities of number 
n
combine into portfolios with a return of: 
n
 p
= ∑ w
i
i
(1)
 i=1
where
 R
 p
is the return to the portfolio,
 R
i
is the return of security
i
, and theweight
w
i
represents the proportion to the whole portfolio, given that: 
n
∑ w
i
= 1.(2)
i=1
 Note that some weights may be negative reflecting a borrowed short position. The risk of a portfolio is measured by its standard deviation, thesquare root of the portfolio’s variance or: 
n n
σ
 p2
= w
i
w
 j
σ
ij
(3)
 i=1 j=1
where
σ 
 p2
 
is the variance of the portfolio and
σ 
ij
is the covariance of thesecurity
i
by
 j
. Some fifty years ago, Markowitz [1959] examined a two-space of vertical returns and horizontal risk measured by the standarddeviation of the returns with the preference toward higher/upward returnsand toward lesser/leftward risk. In examining the risk of a portfolio

You're Reading a Free Preview

Download
scribd
/*********** DO NOT ALTER ANYTHING BELOW THIS LINE ! ************/ var s_code=s.t();if(s_code)document.write(s_code)//-->