Portfolio structure & Performance - A study on Selected Financial Organization in Sri Lanka

7/29/2019 Portfolio structure & Performance - A study on Selected Financial Organization in Sri Lanka

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www.cpmr.org.in Opinion: International Journal of Business Management 16

ISSN: 2277-4637 (Online) | ISSN: 2231-5470 (Print) Opinion Vol. 2, No. 2, December 2012

Portfolio structure & Performance-

A study on Selected Financial Organization

in Sri Lanka

Pratheepkanth. P*

Dr. T. Velnampy**

ABSTRACT

The main objective of the study is to identify the

impact of Portfolio structure on Performance, In

the present study, Portfolio structure [i.e., Income

from Deposit, Income from pawning, Income from

loan as independent variable and Performance (i.e.,

Net Profit, Return on Capital Employed (ROCE) and

Return on Equity (ROE)] as the dependent variable

are considered. In order to select the sample,

convenience sampling techniques method is used.

The study suitably used both secondary data.

Operational hypotheses are formulated, results

revealed that Portfolio system has a positive

association with Performance. Further, Portfolio

structure is enhanced by Income from Deposit,

Income from pawning, Income from loan in the

selected financial institutions where the beneficial

impacts are observed on Performance. Therefore,they have to pay more attention for tuning Portfolio

structure techniques. This study would hopefully

benefit the academicians, researchers, policy-makers

and practitioners of Sri Lanka and other similar

countries through exploring the impact of Portfolio

structure on profitability, and pursuing policy to

improve the current status of it.

Keywords: Portfolio structure, Performance,

Financial Organization

I. BACKGROUND AND SIGNIFICANCE

The banking sector has become extremely competitivepowerful industry in the world today. There are so many

different banks are functional for their business. Such

as commercial banks, saving banks, development banks

etc.. The Commercial banks which are large sub sector

in the financial market. These banks are providing

various services to the people, and to economic

development. In order to provide various service to

economic development, bank should concern its

financial system, loan system, information system so and

so, In which that the portfolio system is very important

aspects to the bank to perform their business efficiently,and also to compete with competitors in the world. The

portfolio system defines capital arrangements Any

banking institution care operated their business process

for aim of profit. So the profitability of every banking

*Lecturer, ** Professor

Faculty of Management Studies & Commerce, University of Jaffna, Sri Lanka.


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institution is dependent on its total advances portfolio.

Power evaluation of this portfolio has made banks

vulnerable to rise in non performing advances which is

turn has led to liquidity problem effecting profitability.

The survival of a firms depends very much on itsability to generate returns from its investments

(Mustapha & Mooi, 2001). Capital expenditures

required in investment normally involve large sums of

money and the benefits of the expenditures may extend

over the future. Utilizing a systematic capital budgeting

process would enhance capital expenditures decisions

(Mustapha & Mooi, 2001).

Now a day investments of Financial Institutions are

considered as a very important aspects of the

development of any country. It is and investment only

the main profit of such banks depends. In conformity tothis principal analysis on port folio management of

Financial Institutions is launched. The main motive behind

this survey is to analysis the organized and arranged

methodology adapted to the achieve development, profit

and reduce the risk and manage the risk.

After the ending of the 30 years continuous domestic

war Sri Lankan companies are entering into a new era,

especially in the North East part of Sri Lanka is needed

to develop infrastructural facilities. For the long term

financial management development Portfolio analysis willbe life blood of the development of the companies.

Therefore this study is very needed for the Financial

Intuitions

II. STATEMENT OF THE PROBLEM

According to financial theory, the objective of the firm

is to maximize the wealth of its shareholders. The optimal

investment decision is hence the one that maximizes the

present value of shareholders wealth (Copeland

,Thoman & Weston, 1992). Sophisticated Portfolio

procedures can under the assumption of economic

rationality all be regarded as means, which a firm uses

in order to fulfill its objective, i.e., to maximize

shareholders wealth. This fact indicates that firms can

increase or even maximize its shareholder wealth by

using sophisticated Portfolio system analysis

RQ1-

Why there is disproportion of the portfolio

structure of bank continuously for the recent fast?

III. LITERATURE REVIEW

A review of the risk management literature indicates thatboth the definition of risk and also our understanding of

the term risk management have evolved over time. Spira

and Page (2003) chart in some detail the evolution of

risk definitions from the pre-seventeenth century

onwards. In pre-rationalism times risk was seen as a

consequence of natural causes that could not be

anticipated or managed, but with more modern, scientific

based thinking there emerged a view that risk was both

quantifiable and manageable via the judicious use of

avoidance and protection strategies. Risk management

became institutionalized with the application of science

(Beck, 1998) and in the process the public were led to

expect risks to be managed. As a consequence, risk

management led to some diffusion of responsibility for

the adverse effects of risk whilst the notion of

accountability required some demonstration of risk

management effort (Spira and Page, 2003) Roland

Robinsons(1962) insightful analysis is an excellent

example of the traditional banking approach. Robinson

sought to describe methods of achieving the mos

profitable employment of commercial bank findsconsistent with safety. For him, there methods

essentially consist of setting and following a hierarchy

of priorities in the employment of bank funds. The

priorities in decending order are legally required

reserves,secondary reserves, customer credit demands

and open market investment for income.

Bank Performance and Credit risk management

(Takang Felix Achou, Ntui Claudine Tenguh,2008). The

axle of this study is to have a clearer picture of how

banks manage their credit risk. This leads to conclude

that banks with good credit risk management policies

have a lower loan default rate and relatively higher

interest income. This thesis takes a fast look on Banking

and Credit risk management and further probes into

bank risk exposure, assessment, management and

control. An attempt will be made to unfold the use of


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some risk management, evaluation and assessment tools,

models, and techniques.

Bank Portfolio Model and Monetary Policy in

Indonesia (Doddy Zulverdi, Iman Gunadi, and Bambang

Pramono, August 2006) This paper analyzes the banksbehavior in selecting its portfolio composition and its

impact on the effectiveness of monetary policy

transmission process in Indonesia. they employ an

analytical model of the banking portfolio behavior based

on microeconomic theory to understand how banks

portfolio behavior in maximizing its profit links to the

efficacy of monetary policy. This study finds that micro

banking condition and prudential regulation affects the

effectiveness of monetary policy. This study also finds

structural changes in banks and borrowers have altered

the smoothness and effectiveness of monetary policy toencourage the economic growth and hindered the

process of economic recovery. As perception on risk

has large impact in supporting the effectiveness of the

monetary policy, effort to reduce risk through the

formation as credit bureau, credit guarantee scheme,

and rating agencies is critical as it will improve

transparency and availability of debtor information.

Banks Loan Portfolio diversification(Csongor

David,Curtis Dionne, University of Gothenburg,2005)

This paper is a qualitative study about how large bankin Sweden manage their loan portfolis. And found that

the majority of large banks in to a certain degree

intuitively diversify their loan portfolio. On the othr hand,

they found that due to the practical complexities the

banks do not manage using loan portfolio diversification.

Due to the size of these large banks it is assumed that

loan portfolio diversification will happen naturally.

Measuring and handling risk -how different financial

institutions face the same problem( Sarah Rrden &

Kristofer Wille, Mlardalen University ,2010) The

objective of this research paper is to understand howdifferent financial institutions handle and attempt to

reduce risk in order to optimize portfolio returns for

their clients, as well as highlight contrasts. This analysis

has highlighted that each company uses different theories

in different ways, because the level of trust in the models

explaining risk varies among the institutions. In other

words, which models are used and why depends on

the philosophy of the firm. Since financial models are

built on the idea that investors act rationally, many of

the models do not hold in times of crisis when humans

act irrationally. Modern Banking and Strategic PortfolioManagement (Reza G. Hamzaee, Missouri, Western

State University & Walden University Bob Hughs,

Missouri Western State University) Hodgmans(1963)

view banks are concerned not only with the composition

of their asset portfolio but also with the relationship

between deposits and loan over time. Hodgmans work

is useful for understanding such aspects of contemporary

banking as prime rate conventions and compensating

balance requirements. Chambers and Charnes (1961)

improved upon this informal traditional analysis by

suggesting a linear programming frame work. Byintroducing interest rate in an objective function and by

viewing the hierarchy of traditional decision rules as

constraints they produced a model of bank behavior

that consistent with both traditional theory and

maximization of bank profits. The important of random

deposit variations for the determination of banks

optimum portfolio was first suggested by

Edgeworth(1988). Porter applied an inventory model

to descripe bank portfolio behavior under uncertainity.

Porters model suggest that a bank maximizes expected

profits will generally hold a diversified portfolio in an

uncertain world. He also demonstrate that if bank profits

are random variable, that is, determined by the joint

probability distribution describing deposits flows and

assets yield, then profit maximization, liquidity and capital

certainity are insight ful constructs for modelking bank

behavior (Bank Management and Portfolio Behaviour-

Donald D.Hester, James L. Pierce, New Haven and

London, Yale University Press, )

IV. OBJECTIVES OF THE STUDY

The study is considered the following objectives.

To identify the portfolio system of Financial

Institutions of Sri Lanka

To manage the various risk securing the market

share of Financial Institutions


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To identify its risk and return preference of

Financial Institutions

To compare its desired relationship among the

portfolio structure

It is summarize the objectives of this study is find

out the impact of Portfolio system on firms performance

and attempts to provide information on the current

portfolio system utilized by Sri Lankan Financial firms

V. DATA COLLECTION

The secondary data were used to the study. The data

required for the study means gathered from the annual

report of the respective company through the website

and journals books, etc

VI. SAMPLING DESIGN

The study will use data of listed financial companies in

the CSE, Sri Lanka, as the sample. In order to select

the sample, stratified random sampling method is used.

Companies with missing data are will be excluded from

the study. The study also will exclude the financial and

securities sector companies, as their financial

characteristics and use of leverage will substantially

different from other companies. After eliminating outliers,

the sample size is 10 companies are selecting for thisstudy

(1)Citizen Developments Bank, (2) Sampath Bank, (3)

Central Finance, (4) Nation Trust Bank, (5) Seylan

Bank, (6) National Development Bank, (7) DFCC, (8)

LB Finance, (9) Hatton National Bank, (10)

Commercial Bank of Ceylon

VII. HYPOTHESES

A large and a well developed literature were interested

to the survey of the gains and costs of the Diversificationstrategy (Comment and Jarrel (1995), Denis and al

(1997), Rajan and al (1998), Rajan and Zingales (2000),

Bhagat and al (1999), Campa and al (2002). Despite a

general agreement that seems to be observed concerning

the negative impact of the diversification strategy on the

performance of the firm (Lang and Stulz (1994), Berger

and Ofek (1995) does not allow us to decide on the

nature of this relationship and therefore justifies new

tests

H1: Portfolio analysis are significantly correlated with

firms performance

VIII. METHODOLOGY

Five years data representing the period of 2006- 2010

were used to measure the portfolio and performance of

selected finance Companies in Sri Lanka. In a way the

following measures were used to measure the portfolio

and performance.

8.1 Correlation Analysis

Correlation is concern describing the strength ofrelationship between two variables. In this study the

correlation co-efficient analysis is under taken to find

out the relationship between Portfolio System and

performance. It shows the amount of relationship exis

between Portfolio System and performance

Table 1

Multiple correlation matrix

ID IL IP NP ROI ROCE

Income from 1

Deposit (ID)

Income from 0.160 1

Loan (IL)

Income from 0.291** 0.321 1

Pawning (IP)

Net profit 0.124** 0.184* 0.264 1

(NP)

Return on 0.413** 0.529** 0.485* 0.315 1

Investment

(ROI)

Return on 0.264 0.654* 0.111** 0.614** 0.241** 1

Capital

Employed

Table 1 shows the relationship between the

variables. Accordingly Income from Deposit is

correlated with NP, ROI and ROCE with the r-values

of 0.124, 0.413 and 0.264 which are significant at 0.01

levels. Similarly the correlation value between Income


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from Loan (IL) and NP, ROI and ROCE is 0.184,

0.529, 0.654 which is significant at 0.01 levels. These

indicate that Income from Deposit (ID)and Income from

Loan (IL) are associated with determinants of firms

performance.

8.2 Regression Analysis

Regression analysis is used to test the impact of

performance on Portfolio of the listed financial companies

traded in Colombo stock exchange

Table 2

Model R R Square Adjusted Std.Error

R Square of the

Estimate

1 0.360a 0.129 0.098 0.32306

The above table shows the weak positive correlation

between the portfolio and net profit.

Table 3

Model Un standardized Standardized

Coefficients Coefficients

B Std.Error Beta t sig

1(constant) 0.187 0.073 2.556 0.016

portfolio 0.047 0.023 0.360 2.039 0.051

The above table indicates the coefficient of

correlation between the portfolio and net profit. Multiple

r2 is 0.1296. only 1.29% of variance of net profit is

accurate by the portfolio. But, remaining 98.21% of

variance with net profit is attributed to other factors.

8.3 Portfolio and ROI

Table 4


R Square of the

Estimate

1 -0.101 0.038 -0.023 0.36514

The above table shows the weak negative

correlation between the portfolio and ROI.

Table 5



B Std.Error Beta t sig1(constant) 0.124 0.083 1.498 0.145

portfolio -0.015 0.026 -0.110 -0.584 0.564


correlation between the portfolio and ROI. Multiple r2

is 0.010. Only 1.0% of variance of net profit is accurate

by the portfolio. But, remaining 99 % of variance with

ROI is attributed to other factors

8.4 Portfolio and ROCE

Table 6


R Square of the

Estimate

1 -0.196 0.038 -0.025 115.19484

The above table shows the weak native correlation

between the Portfolio and ROCE.

Table 7



B Std.Error Beta t sig

1(constant) 31.283 26.050 1.201 0.240

portfolio -4.563 8.250 -0.104 -0.553 0.585


correlation between the portfolio and ROCE. Multiple

r2 is 0.038. Only 3.8% of variance of ROCE is accurate

by the portfolio. But, remaining 96.2% of variance with

ROCE is attributed to other factors

IX. FINDING

The overall result of efficiency and effectiveness

performance of portfolio system has high view in the

portfolio structure. According to the system the efficiency


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and effectiveness performance rate is 60% as high level.

The research of portfolio management of

commercial bank, the researcher finds out the following

according to the secondary data.

The researcher can observe that there is down inthe (ROCE) return on capital employed of Finance

Companies in 2010. That is to say that it had been

observed that the ROCE which was at 18% in 2005,

had grown up to the level 23% in 2006and in the 2007

it was 26% There after it had increased by 2% in 2008.

In other words that ROCE had grown up to the 28% in

2008. Even though, little increased was in 2009 as 29%.

Therefore it could be observed that the income derived

from the assets of Finance Companies is increasing.

When return on Investment (ROI) of Finance

Companies is observed, the researcher could see a slight

increase was in the 2005-2006 but in the 2007it

decrease to 12.7% after that in the 2008 it increased

rapidly to 17%. But in the 2009 & 20q0 small decrease

was taking. That is ROI appeared at 15% in 2010 and

Analyzing these data it could be observed that there

was high fluctuation in the earning capacity of the Finance

Companies during the last five years.

More over during the past five years the ROCE/

ROI of the Finance Companies never reach the ranges

between 70% to 100% for the past five years period.Since 2006 to 2010 over 100% is seen. But if that

establishment had reached its ROCE/ROI between

ranges of the 70% to 100% it would have efficiency of

capitalization. However, during the past five years as

the ratio of ROCE/ROI of Finance Companies did not

reached a range between 70% and 100%. It could be

determined that its capital has not used efficiency and

also during the past five years the EPS ratio indicates

slight decreases.

Then, when a Finance Companies reaches its capital

adequacy ratio, it could invest its capital on risk or riskfree investments. At present in year 2009 the capital

base is recognized as 10% requirement. It is observed

that the Finance Companies has sufficiency in capital

base during the past five years. Its goal must be Tier I

over 7% and Tier II over 10%. However it seems that

the capital base of Finance Companies reaches its target

during the past 5 years. This emphasizes that the Finance

Companies has acquired its capital requirements.

X. RECOMMENDATIONSRecommendations are the main objective of any

research. If there is a problem, there will be some

recommendation to reduce it.

The following recommendations are given by the

researcher about the portfolio management of

Companies.

The Finance Companies can helps by way o

granting high amounts of loans to its customers

for what it must receive proper security to reducing

the amount of risk associated with the loan. It canlend and invest some other mean full resources

could increase its income.

The Finance Companies wishes to earn high profi

and less risk by way of reducing the amount of

high risk loans which are given by the Finance

Companies, it helps to reduce the total amount

bad debts. That may be utilized to risk less loans

or any other safety investment. By this way it could

increase its profit and reduce the level of risk.

By introducing different variety of new fixeddeposits to its customers it can increase its own

long term fund and also by investing these funds

to long term investments it could arrange the

portfolio structure efficient way that will help to

make more profit.

It should obtain more liquidity assts from the

alternative investment opportunities and also i

should correct the deviation between the liquidity

and profitability it help to the management to

maintaining the portfolio structure effectively.

Based on the new technical revolution. The finance

companies should introduce balance score card

to measure the efficiency and effectiveness

performance Commercial bank and also it help

the executive committee to carry out every financial

activities efficient and effective way.


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XI. REFERENCES

1. Arbeleche, S. &Dempster, M.A.H. (2003).

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3. Fabozzi F. J. Financial Instuments. John Wiley

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4. Fama E., MacBeth J. Risk, Return and

Equilibrium: Empirical Tests, The Journal of

Political Economy 1973.

5. Friend I., Blume M. E. The Demand for Risky

Assets, American Economic Review vol. 65,no. 5, Dec. 1975.

6. Galstyan M. Management of international

reserves and the foreign exchange rate, Ph.D.

thesis, Yerevan 2003.

7. Markowitz H. Portfolio Selection, Journal of

Finance vol. 7, no. 1, March 1952.

8. Markowitz H. The Optimization of a Quadratic

Function Subject to Linear Constraints, Naval

Research Logistics Quarterly vol. 3, no. 1-2,March-June 1956.

9. Nugee J. Foreign Exchange Reserves

Management, Bank of England Centre for

Central Banking Studies, Handbook No. 19,

Nov. 2000.

10. Pindyck R. Risk aversion and determinants ofstock market behavior, NBER Working Paper

No. 1921, May 1986.

11. Schooley D., Worden D. D. Risk Aversion

Measures: Comparing Attitudes and Asset

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12. Sharpe W. F., Alexander G. J. Investments (4th

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13. Scherer, A. (2002). Portfolio construction andrisk budgeting. Risk Books

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Portfolio structure & Performance - A study on Selected Financial Organization in Sri Lanka