"Framework" for building a portfolio
Hello, I am currently studying the Modern Theory of portfolio management and I'm having some troubles with the "workflow" of building a portfolio. Here's what I've got so far:
1. Choosing the assets with best growth potentials.
2. Choose a benchmark to compare the portfolio to
3. Calculate the covariance of each pair.
4. Let's say for the sake of the example, I want to limit the portfolio to a certain number of stocks( let's say 5). I would then have to choose 5 from my list of xyz assets in the watch-list above. I've seen from real world example that normally you can diversify to a minimum risk with at least 25 assets.
5. Here's where I'm blocked. How do I choose which ones to add in to obtain the best risk-adjusted performance? Normally the portfolio should be tailored to the risk tolerance of the investor, but what if that level is somewhat vague (moderate) and not extreme (not trying to just minimizing the volatility for example). Should I just try by trial and errors to find the desired portfolio? How do I modify the composition along the way if I think I'll find some better stocks in the future?
What's the point of mixing in riskless assets if you can find stocks with enough decorrelation since you'll more likely to get a better return?
Thank you all in advance for you answers.
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