Credit Bank's FINTECH

Portfolio: Breakdown and

Potential Analysis
Unveiling Opportunities and Navigating Risks
By Pavanchkumar Neeraj Parthiv Balakrishna
Executive Summary

Briefly highlight the investment in Introduce key uncertainties and Emphasize the use of Monte Carlo Briefly mention potential findings
the FINTECH portfolio ($10 their potential impact (volatility simulation and multiple regression and their value for optimizing the
million). loss, transaction costs, asset modeling for in-depth analysis. portfolio.
performance, market growth).
Investment Overview

Breakdown of the $10 million investment Explain the rationale behind investing in a Briefly touch upon the portfolio's
(allocation to different segments, FINTECH portfolio (alignment with composition (types of companies,
diversification strategy). bank's goals, expected returns). industries represented).
Key Uncertainties and Their Impact

Define each key uncertainty (volatility loss, transaction costs, asset performance,
Define market growth, diversification benefits).

Quantify the range of each uncertainty (e.g., volatility loss: $3 million - $5 million)
Quantify and its likelihood (e.g., market growth: 75% chance of 0-5%).

Analyze the potential impact of each uncertainty on portfolio profit

Analyze (positive/negative, magnitude).
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Key Uncertainties: Volatility Loss: Transaction Costs: Asset Portfolio Profit: Growth Rate: 75% Diversification: Assured Return:
Could be anywhere Expected to be Performance: Potential to reach chance of 0-5% Benefits normally The portfolio has a
between $3 million around $16 Based on 100 $40 million, but market growth, distributed around guaranteed 5%
and $5 million, million, but could companies, a depends on market 25% chance of 8% with 2% return.
with each amount range from $12 minimum of 25% conditions. decline (5-15% standard deviation.
equally likely. million to $18 performance is decreased
million. required for revenue).
management
approval. This
translates to at
least $12 gross
profit per dollar
asset.
Example to Analyse the data:

Date Scenario Volality Transaction Asset Market Diversification Portfolio

loss(M) Costs (M) Performance Growth Benefits (%) Profit (M)
(%) (%)

25/10/23 Base Case 4.2 15.8 27 3 7.5 38.2

25/10/23 Optimistic 3.5 14.5 30 5 9 33
25/10/23 Pessimistic 4.9 17.2 24 0 6 33
01/11.23 Base Case 3.8 16.3 28 2 8.2 33
01/11/23 Optimistic 3.1 15 31 4 9.7 33
 1. Identify Key Initial Investment: Volatility Loss: Varies Transaction Costs: Varies
Variables: $10,000,000 between $3 million and $5 between $12 million and

calculating
million (randomly $18 million (randomly
generated in the generated in the
simulation) simulation)

portfolio profit
Asset Performance: Market Growth: Varies Diversification Benefits: Assured Return: 5%
Expressed as a percentage between 0% and 5% Measured as a percentage
(ranges from 24% to 31% (randomly generated in (randomly generated in
in the dataset) the simulation) the simulation)
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Gross Profit per Dollar

Total Gross Profit: Initial
Asset: Asset Performance *
2. Calculate Gross Profit: Investment * Gross Profit
12 (as stated in the case
per Dollar Asset
study)

If Asset Performance is Total Gross Profit =

Example: 27%, Gross Profit per Dollar $10,000,000 * $3.24 =
Asset = 0.27 * 12 = $3.24 $32,400,000
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3. Subtract Costs and Losses: Net Profit before Example: If Volatility Loss is $4.2 Net Profit before
Diversification: Gross Profit - million and Transaction Costs Diversification = $32,400,000 -
Volatility Loss - Transaction are $15.8 million: $4,200,000 - $15,800,000 =
Costs $12,400,000
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4. Apply Diversification Benefits:

Diversified Profit: Net Profit before Diversification * (1 + Diversification Benefits)

Example:

If Diversification Benefits are 7.5%:

Diversified Profit = $12,400,000 * (1 + 0.075) = $13,330,000

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5. Factor in Market Final Portfolio Profit: Example: If Market Growth is 3%: Final Portfolio Profit =
Growth: Diversified Profit * (1 + $13,330,000 * (1 +
Market Growth) 0.03) = $13,739,900
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6. Add Assured Return: Total Portfolio Profit: Final Example: Total Portfolio Profit =
Portfolio Profit + (Initial $13,739,900 + ($10,000,000 *
Investment * Assured Return) 0.05) = $14,239,900
Analysis Methods:

Monte Carlo Simulation Multiple Regression Modeling

Monte Carlo Simulation

Monte Carlo simulation is a statistical

technique that uses repeated random
Definition: sampling to simulate outcomes and assess
the probability of different events
occurring.
 Uses

Portfolio Modeling:

Simulate various scenarios based on the uncertainties in volatility loss, transaction costs, asset performance, market growth, and diversification benefits.

Generate a distribution of possible portfolio profits, showing the range of potential outcomes and their respective probabilities.

Assessing Risk-Reward Balance:

Quantify the portfolio's risk profile by examining the likelihood of different profit levels and potential losses.

Visualize the risk-reward trade-offs to inform decision-making.

Optimizing Portfolio Allocation:

Experiment with different asset allocations and investment strategies within the simulation model.

Identify those that offer the best balance of potential returns and acceptable risk levels.
Procedure(Monte Carlo)

Specify the uncertain variables and their corresponding probability distributions (e.g., uniform
for volatility loss, triangular for transaction costs, normal for diversification benefits).

Set Up Simulation Model:

Create a model that incorporates the relationships between variables and calculates portfolio
profit based on different scenarios.
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Run Simulation:
Generate thousands or even millions of random
scenarios, each representing a possible outcome.

Analyze Results:
Compile the outcomes into a probability
distribution of portfolio profit.
Calculate key statistics like expected return,
standard deviation (risk), and probabilities of
achieving specific profit targets.
Example

One simulation run might randomly select a volatility loss of $3.5 million, transaction costs of $15 million, asset performance of
28%, market growth of 2%, and diversification benefits of 7%.

The model would calculate the portfolio profit for this scenario, and the process would repeat for thousands of iterations, creating a
distribution of possible outcomes.

By analyzing the resulting distribution, Credit Bank can make informed decisions about:

The likelihood of achieving certain profit levels.

The level of risk they are willing to accept.

Potential adjustments to the portfolio to optimize its performance.

 1. Define the Problem and Gather Data:
Clearly state the goal: Understand how different variables affect portfolio profit and use
those insights to optimize portfolio composition and decisions.
Collect relevant data:

Portfolio profit (dependent variable)

Potential explanatory variables:

Multiple
regression Asset allocation (percentage of stocks, bonds, cash, etc.)

Modeling Sector exposure (percentage of technology, healthcare, energy, etc.)

Market conditions (interest rates, volatility, economic indicators)

Trading frequency

Risk tolerance
 2. Explore and Preprocess Data:

Visualize relationships: Use scatter plots, box plots, correlations to visualize relationships
between variables and identify potential issues (e.g., outliers, non-linearities).

Handle missing values: Decide on a strategy (removal, imputation) to address missing

data.
Continue…
Address outliers: Consider appropriate methods (e.g., capping, winsorizing) to mitigate
outlier influence.

Transform variables: If necessary, apply transformations (e.g., log, square root) to improve
linearity or normality.
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3. Build the Multiple Regression Specify the model: *Portfolio Profit = β0 + β1Asset *Estimate model coefficients: Use
Model: Allocation + β2Sector Exposure + statistical software (e.g., R, Python)
β3*Market Conditions + ... + ε to estimate β coefficients and
intercept.
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Check assumptions: Verify model

assumptions (linearity, independence,
4. Evaluate Model Performance:
normality, homoscedasticity) using
diagnostic plots and tests.

Assess goodness of fit: Examine R- Test significance: Use t-tests or F-

squared, adjusted R-squared, and tests to assess statistical significance
residual plots to evaluate model fit. of coefficients.
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Understand coefficients: Interpret

β coefficients to understand the
Identify significant variables:
impact of each variable on
Determine which variables have
5. Interpret Results: portfolio profit (e.g., a 1%
the strongest influence on
increase in asset allocation to
portfolio profit.
stocks might lead to a 0.5%
increase in profit).
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6. Use the Model for Optimization and Decision-Making:

Predict portfolio profit: Use the model to forecast potential profit under different scenarios .

Optimize portfolio composition: Adjust asset allocation, sector exposure, or other variables based on model
insights to potentially improve profit.

Make informed decisions: Use model findings to guide investment decisions, risk management, and portfolio
rebalancing strategies.
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7. Continuously Monitor and Track model performance: Monitor Incorporate new data: Update the
Update: model accuracy over time and adjust as model with new data to maintain
needed. relevance and accuracy.