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Teacher guide · Unit 6 of 13

Portfolio Theory

How to combine investments so the whole is steadier than the parts.

Lessons
6
Reading
45 minutes
Unit quiz
5 questions
Class time
2 periods

Class time is a guide: 45-minute periods, with the lessons, the unit quiz and a discussion. Students can read lessons at home and take the quiz in class, or the other way round.

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By the end of the unit, students can

  • tell the risk diversification removes from the risk it can’t
  • explain how time horizon changes how much risk makes sense, and the difference between risk tolerance and risk capacity
  • use beta, alpha and the Sharpe ratio to judge a return against the risk taken to get it
  • set a target asset allocation, and explain why and how to rebalance

The lessons

Each ends with a one-question check, and students who pass the unit quiz can go on to three optional stages of harder lessons, for bronze, silver and gold medals.

  1. 6.1Diversification8 min

    The only free lunch in investing: less risk without giving up expected return.

  2. 6.2Risk vs. reward8 min

    The question is never how to get high returns without risk. It is which risks pay you properly.

  3. 6.3Beta7 min

    Beta does not change the song the market is playing. It changes how loud your stock plays it.

  4. 6.4Alpha7 min

    Levering up is not a skill.

  5. 6.5Sharpe ratio7 min

    Return alone is a half-answer. This is the other half.

  6. 6.6Asset allocation8 min

    How you split across asset classes matters far more than which investments you pick.

New Jersey Standard 9.1

The grade 12 expectations this unit teaches, quoted from the state’s standard. See the full alignment for every unit.

  • 9.1.12.FP.2Partly covered

    Explain how an individual’s financial values and goals may change across a lifetime and the adjustments to the personal financial plan that may be needed.

    In this unit: Asset allocation, Human capital: your biggest asset (Gold stage)

  • 9.1.12.RM.2Covered

    Identify types of investments appropriate for different objectives such as liquidity, income, and growth.

    In this unit: Asset allocation

Questions for discussion

  1. Two funds both returned 12% last year. What else would you want to know before calling them equally good?
  2. Your investments just fell 37%, as the market did in 2008. What would you do? What would you want to have written down before it happened?
  3. Why might someone who owns three different funds still not be very diversified?

Unit quiz answer key

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