Trade and Investment for Policy Uncertainty

Question: Discuss about the Trade and Investment for Policy Uncertainty. Answer: Introduction: Diversification is considered to be a crucial aspect in decisions related to investment as it assists investors in reducing the risk of loss and enhance chances for maximisation of profits. For a safe or moderate investment, investors are required to keep their money in the stock market as well as in treasury bonds to balance risk and security aspects in investment options (Bloom, 2014). Further, cash in hand is kept to avail market opportunities to earn extraordinary profits. For diversification, it is essential to allocate an optimum percentage to equities, Treasury bonds and cash in U.S. macro economy. This percentage is required to be determined on the basis of macroeconomic factors. In accordance with the study of Reilly Keith (2007), in the U.S. economy return from equities outperforms treasury bonds in terms of return but a similar concept is applied to risk. However; in various situations, stock equities provide negative returns which make investment highly risky. US economy is the worlds largest economy which provides stable economic market to invest. With the increasing inflation and GDP there is increase in interest rate which makes safe investment option more beneficial. Growth in economic data can be noticed through following table: Data shows that higher proportion in equity will be beneficial as market is growing and valuable opportunities are available for investment. Analysis of U.S. macro economy shows that average annual portfolio return is 7% by considering the trend of past years. Henceforth, target return of portfolio should be equivalent to 7% or higher than that (Handley Limao, 2015). Further, annualised return of treasury bills is 1.02%. These rate of return shows that higher proportion should be in equity option to get positive value. Although, to froze secure amount part of amount will be invested in treasury bills. The aggregate portfolio of the investor will have a higher proportion of stock equity and treasuries. In stock equity, investment will be made by considering companies listed on stock exchange and five stock options will be considered on the basis of their performance. With this option, the systematic risk as well unsystematic risk will be managed. Equity will cover a maximum percentage of stock equity as it is highly profitable, but it will be risk-oriented. 60% of the investment will be allocated to this option (Bodie, 2013). Further, 30% of the amount will be invested in holdings of U.S. Treasury and related securities. In this investment option, supreme usage of zero-coupon securities and discount treasuries will be made for the minimisation of the risk in order to assure the availability of invested amount. 10% of the amount will be kept as cash reserve as sudden ups and downs occur in the stock market. By considering this fact, this portion of the investment will be free to be utilised in quick decisions. On the basis of the present study; allocation of the amount to be invested is as follows: Investment options Proportions U.S. equities 60% U.S. Treasury bonds 30% Cash 10% By this allocation, the investor will be able to maximise return with minimum risk. In addition to this, the investor will be in a position to avail market opportunities to earn extraordinary profits. This study concludes that each investment option has its own significance which is required to be considered by investor while making such decisions. References Bloom, N. (2014). Fluctuations in uncertainty. The Journal of Economic Perspectives, 28(2), 153-175. Bodie, Z. (2013). Investments. McGraw-Hill. Handley, K., Limao, N. (2015). Trade and investment under policy uncertainty: theory and firm evidence. American Economic Journal: Economic Policy, 7(4), 189-222. Reilly, F. K., Keith C. B., (2007). Introduction to Security Valuation. Equity and Fixed Income CFA Program Curriculum. 5 (p. 264). Boston: CFA Institute. U.S. Economic Outlook, (2017). Available through https://www.focus-economics.com/countries/united-states. [Accessed on 10th April 2017].