Risk-Return Analysis: Partners Healthcare

Posted: August 25th, 2021

Risk-Return Analysis: Partners Healthcare

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Risk-Return Analysis: Partners Healthcare

At Partners Healthcare, the primary objective is to enhance or increasethe $2.4 billion long-term pool (LTP) of financial assets. The overreliance on bonds and stocks as the main assets portfolio provides fewer chances of achieving the desired objective. Real assets portfolio, apparently, needs to be embraced within the $2.4 billion LTP to maximize returns while minimizing the risk factor. A combination of both the real assets and the traditional assets could influence the returns and risks of LTP, especially if their allocations are increased significantly. Before embracing the mixed assets portfolio, there is a need to analyze the potential implications with regard to the resultant risks and returns. For the LTP analysis, the baseline asset mix for the LTP comprises 55% of domestic equity, 30% of foreign equity, and 15% of long-term bonds. The optimum assets mix portfolio has the highest returns and relatively high risks factor.

The risk-reward principle is the tool which tells the optimum assets mix portfolio. This principle has two major premises. Firstly, an asset portfolio which generates the highest returns is the most desirable. The returns, in this case, are measurable by either or both the return on assets (ROA) or the return on equity (ROE) ratios. Secondly, the most desirable asset portfolio must have a relatively high risk. The reasoning bind this assumption is that in a speculative market, high returns are most common in high-risk assets. In other words, low-risk assets attract insignificant returns. The optimum asset mix portfolio, hence, needs to have both traditional and non-traditional assets which have maximum returns and relatively highrisk. The following charts demonstrate the preferred baseline asset mix based on the risk-reward principle.

Asset Allocation with Domestic Equity, Foreign Equity, and Long-Term Bonds  

The dots with the orange, red, and green glow represent both the returns and risk factors of US equity, foreign equity, and bonds. The US equity has the highest returns and risk factors followed by foreign equity, and bonds respectively. This finding from the two charts above emphasize the risk-reward principle which argues that the optimum asset portfolio has the highest returns and relative risk. The principle, hence, informs the 55% of domestic equity, 30% of foreign equity, and 15% of long-term bonds assets portfolio.

Meanwhile, Partners Healthcare is open to several other portfolio mixes using the three asset classes. Despite this availability of a variety of assets mixes, the risk-reward principle still holds, and the most optimum portfolio is the one that delivers the highest returns and it has a relatively high-risk factor. Given 16 reasonably arbitrary combinations of US equities, foreign equities, and bonds, graphical analysis tells the best assets portfolio. 

Based on the risk-reward policy, the best assets portfolio must bear the highest risk factors and returns. Though portfolio five has high returns, its risk factors are relatively low compared to portfolio 13 whose returns and risk factors are the highest. Based on the 16 reasonably arbitrary combinations of assets, 52% US equities, 32% foreign equities, and 17% bonds is the optimum asset mix portfolio.

Optimal portfolios with four asset classes (the U.S., Foreign, Bonds, and REITs) give a different picture. Notably, REITs are under the real assets category. In this investigation, the idea is to establish if their adoption to the asset mix in the LTP could shift the optimum portfolio which has already been identified. The following graphical analysis provides the answer which is portfolio 12 as it has the highest risk factor and returns.

Optimal portfolios with four asset classes (US equities, Foreign equities, Bonds and Commodities) is represented in the following figure. Again, portfolio 12 is the most preferred given the high-risk factor and the returns.

Optimal portfolios with five asset classes (US equities, Foreign equities, Bonds, REITs, and Commodities) is represented in the following figure.

From the three charts above, it is observable that the optimum portfolio shifts with regard to asset mix every time a real asset is introduced. The potential opportunities for the hospitals, apparently, improve significantly every time a real asset with high risk is introduced. There are two real assets, REITs and commodities. When REITs are introduced, the highest returns and risk factor are realized. Commodities have a lower effect compared to REITs. The introduction of both real assets lowers both the returns and risk factor greatly.

The degree of improvement for the potential opportunities is determined by two key factors: an asset’s risk factor and associated returns. REITs have a higher risk factor than commodities. This explains why REITs has high returns than commodities. When the two assets are embraced in the portfolio mix, the average risk factor decreases, and as a result, the returns decrease as well. It would be prudent if Partners Healthcare adopted mixed-asset combination portfolio with only REITs as the real-asset. This would maximize returns. Although the inclusion of commodities could provide greater risk diversification, returns would dwindle.In brief, the optimum assets mix portfolio should have four asset classes (the U.S., Foreign, Bonds, and REITs).