Modern Portfolio Theory.
A definition, in plain English — with the books that teach it.
What it means
Modern Portfolio Theory (MPT), introduced by Harry Markowitz in 1952, argues that investors can construct portfolios that maximize expected return for a given level of risk by exploiting the correlation structure among assets. The key insight is that combining assets with low or negative correlations reduces portfolio volatility without sacrificing proportionate return. MPT gave rise to the concepts of the efficient frontier, systematic vs. unsystematic risk, and quantitative asset allocation. Critics argue it relies on normally distributed returns and stable correlations — assumptions that break down in crises.
Example
An investor holds only U.S. equities. Adding international stocks and bonds with lower correlations to U.S. equities moves the portfolio toward the efficient frontier — the same expected return at lower volatility, or higher expected return at the same volatility.
