The portfolio analysis of multiperiod capital investment under conditions of risk

This article applies the Markowitz-Tobin portfolio selection model to problems of multiperiod capital investment, and sets out the theoretical implications for the received doctrine of capital budgeting. Situations in which the use of the mean-variance criterion leads to the inclusion of projects with negative expected net present values in the optimal decision set are analyzed. It is shown that the firm may rationally accept a proposal with negative net present value in the case of low risk projects or even in the case of high risk projects whose negative covariance with other accepted projects is sufficiently strong to produce an efficient combination (portfolio). An analysis of the properties of a proposed measure of risk, the variance of net present value, shows that this measure of dispersion provides an acceptable multiperiod analogue to the measure of risk used in portfolio analysis.