Investment asset allocation theory developed by 20th Century investment analysts and researchers that stresses diversification in order to reduce risk and increase long-term performance. Key assumptions of the theory are that investors prefer higher returns to lower, less risk to more, and that they have long-term time horizons. Under the theory, by adding a relatively risky, high-return asset to a portfolio, you can not only increase the expected return, you also decrease the risk.

A complex investment program, which permits the investor to estimate, control and classify the types of risks and the amount of, expected risk and return they may expect. This process involves securities valuation, asset allocation, portfolio optimization and performance measurement with respect to the relationship of risk and return for the investments being considered.

A sophisticated approach to investing that attempts to create an optimal portfolio for each client given the client's risk tolerance and investment objectives by allocating the investor's portfolio among the various asset classes. See: Diversification.

A set of statistical methodologies developed over the past 40 years for analyzing the performance and risk levels of various investments. A cornerstone of Modern Portfolio Theory is the comparison of an investment to a particular benchmark, such as the S&P 500 or other market . For example, Modern Portfolio Theory can compare the value fluctuations (see R-squared), price volatility (see beta), and volatility-adjusted returns (see alpha) of a mutual fund to these same measurements for an index. Modern Portfolio Theory considers such measurements together, rather than in isolation. See also Sharpe ratio.

The theory of selecting an optimal combination of assets such that the investor secures the highest possible return for a given level of risk or the least possible risk for a given level of return. Using portfolio theory, an investor assembles a group of assets on the basis of how the individual assets interact with one another. Thus, a security would be purchased not on the basis of how that security is expected to perform in isolation but rather on the basis of how that security can be expected to influence the risk and return of the investor's entire portfolio. Although individual investors can use some of the ideas of portfolio theory in putting together a group of investments, the theory and the literature relating to it are so complex and mathematically sophisticated that the theory is applied primarily by market professionals.

the blanket name for the quantitative analysis of portfolios of risky assets based upon expected return, or the mean expected value, and the risk, or standard deviation of a portfolio of securities. According to MPT, investors would require a portfolio with the highest expected return for a given level of risk

Investing theory in which portfolio managers estimate and manage risk and return.

This approach to making investment decisions focuses on potential return in relation to potential risk. The strategy is to evaluate and select individual securities as part of an overall portfolio rather than strictly for their own investment qualities. Asset allocation is a primary tactic, according to theory practitioners, because it allows investors to create portfolios to get the strongest possible return without assuming a greater level of risk than they are comfortable with. Another tenet of portfolio theory is that investors must be rewarded (in terms of a greater return) for assuming greater risk. Otherwise, there would be little motivation to make investments that might result in a loss of principal.

a method of choosing investments that focuses on the importance of the relationship among all of the investments in a portfolio rather than the individual merits of each investment. The method allows investors to quantify and control the amount of risk they accept and return they achieve.

A set of principles that analyzes investment portfolios based on risk-return trade-offs and the diversification of investments intended to mute the effects of declines in the worth of specific holdings in the portfolio.

an explanation of investor behavior which was first put forth in a dissertation by Harry Markowitz in 1952; Markowitz noted that investors, because they are risk-averse, tend to invest in multiple securities to lessen the risk of their portfolio as a whole

A theory of managing investment risk proven by Harry Markowitz in 1955 and refined by William Sharpe. The underlying theory of asset allocation, which holds that diversification of investments among more than one asset class with opposite historical performance (negative correlation) helps to maximize return and minimize risk.

Investment decision approach that permits an investor to classify, estimate and control both the kind and the amount of expected risk and return.

The theoretical constructs that empower investment managers to analyse, predict and influence the sources of risk and return.

A body of theory relating to how investors optimize portfolio selections.

Principals underlying the analysis and evaluation of rational portfolio choices based on risk- return trade-offs and efficient diversification.

An investment strategy that allows an investor to quantify a given portfolio's expected risk and return. This portfolio approach shifts emphasis from analyzing the characteristics of individual investments to determining the historical statistical relationships amongst the securities that comprise the overall portfolio.

It assumes that the stock markets are efficient (the price of securities incorporates all publicly known information about them). It also proposes that a diversified portfolio of risky assets will be less risky than the sum of the individual assets.

Aims to minimize the risks of investing while maximizing returns through the diversification of a portfolio. Diversification is the process of allocating funds among a number of different asset classes. Modern portfolio theory looks at three main factors in determining appropriate investments for an investor's portfolio: the investor's goals and objectives for investing, the time frame of investment, and the investor's risk tolerance, or how comfortable the investor is with taking certain risks. Optimizing a portfolio according to modern portfolio theory involves matching the statistics of expected risk and return for a number of different assets with the individual's terms of investment.

The theory of portfolio management/ construction optimization which accepts the risk/reward trade off for total portfolio return as the crucial criterion.

The theoretical framework for designing investment portfolios based upon the risk and reward characteristics of the entire portfolio, which is held not to be equivalent to the aggregation of the individual securities of the portfolio due to the covariance of returns of the individual assets. The major tenet of the theory holds that reward is directly related to risk, which can be divided into two basic parts: 1) systematic risk (portfolios' behavior as a function of the market's behavior), and 2) unsystematic risk (portfolios' behavior attributable to selection of individual securities). Because un-systematic risk can be largely eliminated through diversification, the portfolio will be subject principally to systematic risk.

A portfolio management theory that seeks to maximize risk-adjusted returns and optimize portfolios through security valuation, diversification, and asset allocation strategies.

A process of selecting a mix of asset classes and the best allocation of those assets. The method is determined by matching the rates of return to a specified risk tolerance. MPT was a Nobel Prize winning theory in 1952.

Modern portfolio theory (MPT) proposes how rational investors will use diversification to optimize their portfolios, and how a risky asset should be priced. The basic concepts of the theory are Markowitz diversification, the efficient frontier, capital asset pricing model, the alpha and beta coefficients, the Capital Market Line and the Securities Market Line.