π
Expected return
Return
Utility function
π
Real return
Risk averse
Less risk
Indifferent to risk
Risk and return
Risk tolerance
Risk neutral
Focus on higher return
Risk seeking
Utility theory and indifference curve
More risky
Risk–return trade-off of major asset classes
Risk
Indifference curve (IC)
Forming portfolios
Negatively skewed
Distributional characteristics
Greater kurtosis (fatter tails)
Other investment characteristics
Market characteristic
Liquidity can affect expected return
Population variance
Covariance and correlation
Higher variance → Less predictable return
Variance of return for an individual asset
Sample variance
M1: PORTFOLIO RISK AND RETURN: PART I
Portfolio return
Variance
Diversification only affects risk
Standard deviation
Different weights for different assets
Portfolio risk
Portfolio measurement
(N risky assets)
Equal weights (1/N for all N assets)
Minimum-variance Portfolio: lowest σ for a
given level of E(R)
Efficient frontier: top portion of minimumvariance frontier
Investment opportunity
Global minimum-variance portfolio: portfolio
on the efficient frontier that has the least risk
Covariance
Ranges from −∞ to +∞
Relationship measurement
Correlation
Ranges from –1 to +1
Representing possible combinations of a risk-free asset and
a risky portfolio (a portfolio of many risky assets)
Maintain previous views or forecasts
Conservatism bias
Seek or notice what confirms previous beliefs
Confirmation bias
Portfolio return
Categorize new information based on previous experiences
Representative-ness bias
Belief perseverance bias
Point A: 100% risk-free asset
Capital allocation line (CAL)
Overestimating ability to control outcomes
Illusion of control bias
Point B: 100% risky portfolio
Portfolio risk
Perceiving past events as more predictable than they were
Homogeneity of expectations
Hindsight bias
Cognitive errors
Reply on an initial information to make decisions
Anchoring and adjustment bias
Mentally dividing money into "accounts" that
influence decisions, ignoring its fungibility
Capital market line (CML): is the same CAL for
all investors
Mental accounting bias
Checklist
Processing errors
Responses vary based on how a question is asked or framed
Information-processing bias
Framing bias
Judging probability or importance of outcome based on
how easily information is recalled
Availability bias
Portfolio measurement
(risk-free asset and risky assets)
Behavioral bias categories
Strongly prefer avoiding losses to achieving gains
Review the Mindmap – Go over each branch and ensure all key
formulas and concepts are clear
Reinforce Key Concepts and Definitions
Loss-aversion bias
Memorize portfolio measurement and formulas, portfolio management
process and categories of behavioral bias
The better risk–return trade-off (higher return
for any given level of risk)
Optimal risky portfolio
Demonstrate unwarranted faith in their own abilities
Over-confidence bias
Prioritize short-term satisfaction over long-term goals
Module practice questions – Complete CFA module practice
Curriculum questions for each Porfolio Management
Self-control bias
QBank practice – Solve at least 50% QBank questions focused on
Porfolio Management
Prefer to do nothing and maintain the current
state, even when change is needed
Status quo bias
Emotional biases
M5: THE BEHAVIORAL BIASES OF
INDIVIDUALS
Overvalue assets they own, perceiving them as
worth more than they would pay
Practice and Application
INVESTOR BEHAVIOR AND
DECISION MAKING
Endowment bias
Leveraged portfolios
Avoid making decisions because of fear of poor outcomes
POST-MINDMAP ACTION PLAN
Borrowing Portfolios (Right of M)
Review portfolio risk & return calculations - memorize and apply key formulas
Regret-aversion bias
Identify Struggle Points – Are you struggling with risk-return calculations, CAPM or
performance evaluation?
Errors of omission
Review Weak Areas
Market anomalies
More detail in Equity Topic
Momentum
Behavioral finance and market behavior
Revisit Curriculum – Go back to the SAPP slides or CFA
curriculum for any sections you struggled with during practice
Bubbles and crashes
Systematic risk
Risk that is inherent in the overall market
Total risk = Systematic risk + Unsystematic risk
Non-systematic risk
Final Touches
Risk that pertains to a single company or industry
Individual investors
Mock Exam Simulation – Take a timed section test and analyze performance
Asset return move opposite to the market
Types of investment clients
Endowments and foundations
Return of Risk-free asset
Characteristics
Banks
Return of Market
Indtitutional investors
Insurance companies
Asset return follows the general market trend
Beta
RISK AND RETURN ANALYSIS
Sovereign wealth funds (SWF)
Investment companies
PORTFOLIO
MANAGEMENT
Buy side vs. Sell side
Security characteristic line (SCL)
Active management vs. Passive management
Beta estimation
Traditional vs. Alternative asset managers
Aspects
Privately vs. Publicly owned firms
M2: PORTFOLIO RISK AND RETURN: PART II
Growth of passive investing
Investors are risk-averse, utility-maximizing, rational individuals
Markets are frictionless: no transaction costs and no taxes
Trends
Investors plan for the same single holding period
Rodo-advisers
Assumptions
Investors have homogeneous expectations or beliefs
All investments are infinitely divisible
Investors are price takers
Capital asset pricing model (CAPM)
Open-end funds
Single-factor model
Asset management industry
Closed-end funds
Focus only on market factor
Based on trading method
Load funds
No-load funds
Representation of the CAPM with beta
Mutual funds
M3: PORTFOLIO MANAGEMENT: AN
OVERVIEW
PORTFOLIO PLANNING AND
CONSTRUCTION
Security market line (SML)
Money market funds
Return generating model
Capital market line (CML)
Apply only for efficient portfolios (on the
efficient frontier)
Security market line (SML)
Apply for all securities or assets, efficient or not
CML vs. SML
Bond mutual funds
Based on asset type that funds invest in
Stock funds
Hybrid or balanced funds
Market model
Trade on exchanges
Exchange-traded funds
More than 1 factor are considered:
Macroeconomic, fundamental, and
statistical factors
Investment products
Generally structured as open-end funds
A portfolio that is owned by a single investor
and managed by portfolio manager
Separately managed account
Multi-factor models
Typically use leverage, derivatives, and long
and short investment strategies
Three-factor model of Fama and French: size,
book-to-market value, beta
Often usded models
Four-factor model: size, book-to-market value,
beta and momentum
Hedge funds
Qualified investors
More detail in AI Topic
Private equity funds and venture capital funds
More detail in AI Topic
Sharpe ratio
Realistic goals
Total risk
Standard for evaluating portfolio manager's
performance
M-squared (M2)
The need of IPS
Guiding the actions of portfolio managers
Risk and return objectives
Ability + willingness to take risk
If ability and willingness are conflicting
→ choose the lower
Portfolio performance appraisal measures
Step 1: Planning
Investment objectives
Risk tolerance
Treynor ratio
IPS preparation
Liquidity
Systematic risk
Jensen’s alpha
Time horizon
Tax situation
Investment constraints
(L,T, T, R, U)
Legal and regulatory
Portfolio management process
- M4: BASICS OF PORTFOLIO PLANNING
AND CONSTRUCTION
Unique circumstances
Goal of risk management
Maximizing the company’s or portfolio’s value
or the individual’s overall satisfaction, or utility
ESG investing
Top-down process
Each asset class should provide diversification
benefits
Risk budgeting: allocating risk over the
sources of investment return
Each asset class should contain assets that
carry a similar expected return and risk
Description
Strategic asset allocation (SAA)
Tactical asset allocation (TAA)
Driven by regulations and fiduciary duties
Align risk management with enterprise
objectives
Priciples of portfolio construction
Confidence Check – Reflect on your readiness; if certain areas
feel weak, allocate more practice time
Summarize the key takeaways in one page - Write a high-level summary
or flashcards for quick reference before the exam
Defined-benefit pension plans
(DB plans)
Use of "Big Data" in investment process
Seek Clarification – Rewatch lecture videos, re-read slide, or
join discussion group (zalo) to resolve doubts
Check for Common Calculation Errors - Review mistakes and note
areas requiring more attention
Value/growth anomaly
Defined contribution pension plans (DC plans)
Track accuracy – Keep a record of correct answers and mistakes
to measure improvement
Review CAPM - formula and limitation
Lending Portfolios (Left of M)
Errors of commission
Fill in Gaps – Identify areas where your understanding is weak and
revisit those sections in the curriculum or study guide
Step 2: Execution
Assess worst possible loss scenarios
Security selection
Provide clear but flexible risk management strategies
Elements of effective risk governance
Revised
Step 3: Feedback
Align with enterprise risk management
Regular discussions on risk at the management level
Rebalanced
Risk governance
Chief Risk Officer (CRO) oversees risk framework implementation
Internal risk factors
Defining risk tolerance
External risk factors
Risk budget links high-level governance decisions
to management actions shaping risk exposure
Standard deviation
M6: INTRODUCTION TO RISK MANAGEMENT
Risk budgeting
Beta
Single-dimensional measure
Value at risk (VaR)
Approach
Scenario loss
Risk classes approach
Multi-dimensional measure
Risk factors approach
Refer to the people and systems that carry out the
risk management process
Risk infrastructure
Credit risk
Financial risk
Arise from inside financial markets
Liquidity risk
Market risk
Settlement risk
Risk idenfication
Chained interaction
Model risk
Risk interactions
Tail risk
Framework
Key factors
Non-financial risk
Arise from outside financial markets
Legal risk
Compliance risk
Solvency risk
Operational risk
Standard deviation (σ): asset price and interest rate
Beta: equity
Risk measurement
Duration: debt
Delta, Gamma, Vega, Rho: derivatives
VaR, CVaR: tail risk
Policies and processes
Provide guidance on execution of the risk framework
Ensure risk exposure is aligned with risk tolerance
Risk avoidance
Risk monitoring, mitigation, and management
Self- insurance
Risk acceptance
Diversification
Risk modification methods
Communications
Risk transfer
Insurance
Risk shifting
Derivatives
Ensure clear and timely communication
Strategics analysis and integration
Enhance governance and risk management
across the business
Adverse interaction
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