This document discusses portfolio insurance as a strategy to protect investments from market risk. It defines portfolio insurance as combining various financial instruments like stocks and bonds in a way that protects the portfolio's value from degradation. There are two main types of portfolio insurance: option-based portfolio insurance (OBPI) and constant proportionate portfolio insurance (CPPI). OBPI uses put options to hedge against market declines, while CPPI adjusts the proportion of risky and riskless assets in the portfolio based on its value. The document provides examples of how each strategy works and their benefits in helping investors avoid unexpected losses from their portfolios.

1. PORTFOLIO INSURANCE
FAHAD.P
NIYAS.N
HASHIM .K

2. INTRODUCTION

No one can predict exactly what will
going to happen tomorrow, so everyone
wants to secure there tomorrow. For the
purpose of securing our tomorrow we will
go for insurance. we are all very much
familiar with insurance concept and most
of us entered and entering into the
insurance agreement like Life insurance,
Health Insurance, Vehicle Insurance and
Wealth Insurance but our investments
(Portfolio &Mutual Fund) are not covered
by insurance because most of us do not
aware of Portfolio Insurance.

3. 
Everyone insuring to protect their
future. We are all making investment
for the future benefit but our
investment will affect by volatility in the
market other reason, it’s called as total
risk. Due to this market risk volatility
the investor may unable to get his
desired or expected return in future.
So, it’s essential to protect our
investment by covering it by insurance

4. MEANING
Portfolio insurance is an investment
strategy where various financial
instruments like equities and debts
and derivatives are combined in such
a way that degradation of portfolio
value is protected
 Portfolio insurance is a method of
hedging a portfolio of stocks against
the market risk by short selling stock
index futures


5. EVOLUTION OF PORTFOLIO INSURANCE

Introduced by Hayne E. Leland and
Mark Rubinstein (11th September
1976)
The market crash of 1973-74 may
intended the investor start withdrawn
their fund from stock market. Haney E.
Leland understood this situation and
appeals the new financial product
called portfolio insurance. He
suggested put option as tool (Option
Based Portfolio Insurance ).

6. 
In 1987 Black and Jones proposed the
new Portfolio Insurance strategy using
the risky (equity) and riskless (bonds)
assets in portfolio. this strategy is
known as Constant Proportionate
Portfolio insurance(CPPI)

7. Effect of portfolio insurance

8. HOW THE PORTFOLIO INSURANCE WILL
WORK?
There are two types of portfolio
insurance strategy :
1) Option Based Portfolio
Insurance(OBPI)
2)Constant Proportionate
Portfolio Insurance (CPPI)

9. Option Based Portfolio Insurance(OBPI)

OBPI is achieved by using financial
derivatives like put option. In this
strategy when market is seems to
decrease the investor hedge his
portfolio of stocks against the market
risk using put option on stock index
futures.
Advantages: 1) faster execution
2) greatly reduced transaction
costs

10. How OBPI works
first select an index with a high
correlation( negetive ) to the portfolio
we wish to protect.
 Then calculate how many contracts to
buy to fully protect the portfolio using
the following formula.
No. Index Puts Required =
Value of portfolio / (Index Level x
Contract Multiplier)


11. 
A fund manager oversees a well
diversified portfolio consisting of thirty
large cap. stocks with a combined
value of 10,000,000. Worried by news
about a possible outbreak of war in
the middle east, the fund manager
decides to insure his holding by
purchasing slightly out-of-the-money
S&P 500 index put expiring in two
months' time in December. The
current level of the S&P 500is 1500
and the DEC 1475 SPX put contract
costs 20 each. The SPX options has a
contract multiplier of 100.

12. 
So the number of contracts needed to
fully protect his holding is:
Value of portfolio / (Index Level x
Contract Multiplier)
10000000/1500 x 100 = 66.67 or 67
contracts.
Total cost of the options is: 67 x 20 x
100 = 134,000

13. Index
Portfolio
Value
Put Option
Value
Insured
Portfolio
1200
8,000,000
1,708,500
9,7085,00
1300
8,666,666
1,038,500
9,705,166
1400
9,333,333
368,500
9,701,833
1500
10,000,000
-134,000
9,866,000
1600
10,666,666
-134,000
10,532,666
1700
11,333,333
-134,000
11,199,333

14. Effects of portfolio insurance:
 When market falls
 When market rises
 When market is flat .

15. CPPI (Constant proportion
portfolio insurance)
CPPI strategy is about proportionate of risky
(equity) and riskless (bonds) assets in a portfolio
to avoid the risk protect the value of portfolio.
CPPI is a method of portfolio insurance in
which the investor sets a floor value of his or her
portfolio and then structures asset allocation
around that decision. The two asset classes
used in CPPI are a risky asset (equities or
mutual funds), and a riskless asset of cash,
equivalents or Treasury bonds. The percentage
allocated to each depends on the "cushion"
value.

16. Advantages of cppi :
Does not require derivatives
 Fewer management expenses
 Adjustable risk and reward


17. Attributes





Generally, portfolio insurance can be thought of
as holding two portfolios. Risky and riskless
assets
The floor level, the lowest value the portfolio can
have, is viewed as the safe or riskless portfolio
with value equal to the level of protection
desired.
The second portfolio is portfolio cushion which
consists of the difference between the total value
of the portfolio and the floor.
These assets consist of a leveraged position in
risky assets.
To insure the portfolio, the cushion should be
managed so as to never fall below zero in value
because of the limited-liability property of
common stock.

18. 
Portfolio value:
It is the total financial value of the portfolio as on the
day.

Floor value
It is the minimum value can be realized by the
portfolio as on that day. It’s normally calculated using
time value. In this case riskless assets return will
be the discount factor
Value of portfolio should not goBelow the floor value
..
Cushion value
It is a difference between portfolio value and
Floor value. (portfolio value- Floor value). Its
also called as Gap value. It will help to
determine the investment value of Risky
assets.

Cushion
= portfolio value – floor value

19. 
Multiplier
Multiplier= exposure /cushion
Exposure = value of risk free assets

20. Value of multiplier




21. Determining proportion
Risky assets= multiplier * cushion value
Riskless assets= total portfolio value – risky
assets
m
e
c
500
200
2.5

22. Empirical example

24. Maxloss –20 %
Multiplier = 5
Translated
into hedging
system
Risk-free
Bonds
50 Euro
Equities
75 Euro
Protection
Level
90 Euro
Risikofreie
Renten
30 Euro
105 Euro
105 Euro
Maxloss –20 %
Multiplier = 5
Equity market
rises by 10 %
Equities
55 Euro
105 Euro
Cushion 15 Euro
Cushion 10 Euro
Maxloss –20 %
Multiplier = 5
Equities
45 Euro
Risk-free
Bonds
50 Euro
Translated
into hedging
system
Protection
Level
90 Euro
Equities
25 Euro
Risk-free
Bonds
70 Euro
95 Euro
Equity market
falls by 10 %
Cushion 5 Euro
95 Euro
Risk-free
Bonds
50 Euro
95 Euro
Protection
Level
90 Euro
100 Euro
100 Euro
Equities
50 Euro

25. CONCLUSION
The portfolio insurance is much needed for
investor. These insurance technique help to
reduce the unexpected future loss some time it
avoids the loss also but it incur some cost (in
case of OBPI) or it will slowdown (in case of
CPPI) but it will not affect the investors
investment because these techniques are came
to exist to protect the investor investments.

The OBPI will helpful in case of aggressive
portfolio when market volatile affect it. This can
be useful for blue chip portfolio and mutual funds.

The CPPI is good for all the situation and for
all type of investment because it will reduce the
risk by investing in riskless assets.


26. Investors who have average
expectations, but whose risk tolerance
increases with wealth more rapidly
than average, will wish to obtain
portfolio insurance.
 Investors who have average risk
tolerance, But whose expectationsof
returns are more optimistic than
average will wish to obtain portfolio
insurance.


27. THANK YOU…