"The Multi-Index Model and Practical Portfolio Analysis" by James L. Farrell
Financial Analysts Research Foundation | 1976 | ISBN: 1934667064 | 57 pages | PDF | 5 Mb
Modern portfolio analysis is concerned with grouping individual investments into an efficient set of portfolios. A portfolio is defined as efficient if (and only if) it offers a higher overall expected return than any other portfolio with comparable risk.
Three analytical methods for developing efficient sets of portfolios are:
1) Markowitz model;
2) Sharpe single-index model;
3) Cohen and Pogue's multi-index model.
The Markowitz model established the basic framework for modern portfolio analysis and provides the most accurately developed set of efficient portfolios. The size and complexity of the model, however, makes it virtually inapplicable for practical use.
The Sharpe model economizes on inputs and computer time but neglects important relationships among securities. Failure to assess these relationships results in a set of portfolios that is less than truly efficient.
Cohen and Pogue's multi-index model provides a means of accounting for these relationships while at the same time achieving substantial input and
computational savings over the Markowitz technique.
The multi-index model should thus be the preferred technique for practical portfolio analysis.
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