Assignment on :why portfolio management is the heart of commercial bank for making investment decision
Answers
Answer:
The main aim of a commercial bank is to seek profit like any other institution. Its capacity to earn profit depends upon its investment policy. Its investment policy, in turn, depends on the manner in which it manages its investment portfolio
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Explanation:
Objectives of Portfolio Management:
There are three main objectives of portfolio management which a wise bank follows: liquidity, safety and income. The three objectives are opposed to each other. To achieve on the bank will have to sacrifice the other objectives. For example, if the banks seek high profit, it may have to sacrifice some safety and liquidity. If it seeks more safety and liquidity it may have to give up some income. We analyse these objectives one by one in relation to the other objectives.
1. Liquidity:
A commercial bank needs a higher degree of liquidity in its assets. The liquidity of assets refers to the ease and certainty with which it can be turned into cash. The liabilities of a bank are large in relation to its assets because it holds a small proportion of its assets in cash. But its liabilities are payable on demand at a short notice.
Therefore, the bank must hold a sufficiently large proportion of its assets in the form of cash and liquid assets for the purpose of profitability. If the bank keeps liquidity the uppermost, its profit will below. On the other hands, if it ignores liquidity and aims at earning more, It will be disastrous for it. Thus in managing its investment portfolio a bank must strike a balance between the objectives of liquidity and profitability. The balance must be achieved with a relatively high degree of safety. This is because banks are subject to a number of restrictions that limit the size of earning assets they can acquire.
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The nature of conflict between liquidity and profitability is illustrated in earning assets are taken on the horizontal axis and cash on the vertical axis. CF is the investment possibility line which shows all combinations