Optimising the Investor's Portfolio through Modern Portfolio Theory: Empirical Evidence from Pakistan

Abstract

Diversification is considered a way to lower investment risk by using a variety of investment avenues. The objective of this study is to compare the portfolio performance based on mean-variance optimisation with a naively diversified portfolio for textile spinning stocks in the Pakistan country. The data period of study spans from January 2015 to April 2022. The result shows that portfolios based on naïve diversification strategies outperformed the mean-variance portfolio optimisation in terms of risk and return for the textile sector in Pakistan. Of all the 9 variance-covariance estimators, the portfolio of sample and single index covariance technique is optimal for estimating variance-covariance matrices based on low RMSE (root mean square error) in Pakistan. This study extends the debate on mean-variance portfolio theory and naïve diversification strategy from the developed economy to the emerging equity market of Pakistan. This research contributes by providing the framework to the potential investors regarding their investments in the textile sector in Pakistan.