Portfolio management and derivatives

Portfolio management is the art of combining assets so that the whole is better than the sum of its parts: risk falls through diversification while return is preserved. Harry Markowitz showed that the optimal portfolio depends not on each asset's risk alone but on how assets move together (covariance and correlation). Worked example: two shares each swing wildly, but when one rises the other tends to fall (negative correlation) — holding both smooths the ride, and the portfolio's risk can fall below the risk of either share alone. The efficient frontier is the set of portfolios giving the highest return for each risk level; rational investors choose on it. Derivatives — options, futures, forwards and swaps — derive their value from an underlying asset and are used to hedge risk or to speculate.