Short sales can be confusing for students in several ways. First, they are unintuitive, perhaps because most of their experience in life consists of buying things or selling something they already have. Second, the concept of a portfolio weight is not as clear as for long positions, and there are at least two ways to define them. Third, the margin requirements of short sales can be counterintuitive: you are selling something but don’t get the money; in fact, you have to put up additional money. If they don’t understand this third point, they can run out of money when trying to implement a strategy.
All this comes together in our Portfolio Diversification project where we explain the issues involved. The project forces them to work through and understand the issues. The real-time analytics they use to monitor their positions reinforce this, for example:
Of course, they also get to see much more; they get to compare their portfolio with two optimized portfolios as well as the naively diversified portfolio and the benchmark. Various performance measures are along the top (the Jensen measure is zero since I am using CAPM expected returns). All this is calculated in real time. Incidentally, every parameter (such as beta or volatility or the equity premium) can be changed by the student and the instructor.
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