Portfolio theory has been the topic of debate for a number
of years. First developed by Markowitz in 1952, the idea that investors can
reduce risk by diversification and holding a portfolio of investments has been
challenged by many investors; most notably Warren Buffett.
A prime example of Portfolio Theory being applied is in the
pharmaceutical industry, which attract the question why has there been such a
surge in mergers and acquisitions, with totals of $221 billion in the first
half of 2015 (Wieczner, 2015).
The giants in the
pharmaceutical industry, such as Teva, Mylan and Pfizer, are diversifying their
risk by buying smaller research focused companies. This is a much cheaper
strategy and is far more suited to their high growth business model as they
don’t have to invest years into researching and developing new drugs. These companies believe that
acquisitions are the only way to keep their revenues growing as fast as
investors expect. The complexity of today’s breakthrough medicines mean that it
is often cheaper for a company to acquire the next blockbuster drug than to
develop it in-house.
Personally I believe the pharmaceutical industry is an
example of the application of portfolio theory being a success, as it is easy
for a firm to just purchase a company to acquire new patents which can then be
used to mass produce new drugs. When used in other contexts, for example as an
investment technique, it is not always as efficient. It relies on past
information to make future returns, which cannot give you an advantage as this
information is and has already been available to the market. I’ll leave you
with a thought; Warren Buffett claims you should “put all your eggs in one
basket,” providing you are convinced it is the right investment. He did – in
1988 he bought $1billion worth of Coca-Cola stock, Buffett’s Berkshire Hathaway
now owns… Wait for it… $18.3billion worth of Coca-Cola stock.
Wieczner, J. (2015). The real
reasons for the pharma merger boom. Fortune. Retrieved 9 April 2016,
from http://fortune.com/2015/07/28/why-pharma-mergers-are-booming/
Ft.com,. (2015). Pharma M&A:
portfolio theory - FT.com. Financial Times. Retrieved 9 April 2016,
from http://www.ft.com/cms/s/3/27db96f4-3474-11e5-b05b-b01debd57852.html?ftcamp=engage/capi/widget/client/openft/b2b#axzz3zrNwLRhE
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