Introduction to K Means Analysis for Stock Portfolio Essay

1. Background[1] Investment decisions are about making choice. Investors need to decide what asset to be invested. This is an important decision because these assets are the means by which investors transfer today’s purchasing power to the future. In effect, investor must decide on a portfolio of asset to own. A portfolio is simply a combination of assets designed to serve as store of value. Poor management of these assets may destroy the portfolio’s value, and investor will then not achieve their financial goals. There are many assets like stocks, bonds, derivatives that investors may include in the portfolio. In Hong Kong, stock portfolio is the most common investment. But what stocks have higher return? What stocks are risky? What stocks in the portfolio that it has higher return? Many investors may use fundamental analysis to analysis financial data for answering above questions. In the last decade, some researches applied data mining techniques on financial market. Data mining is the process of automatically discovery useful information in large data repositories. It can be used to support a wide range of business intelligence applications such as customer profiling, targeted marketing, store layout. 2. Motivation In America, there are some research papers[2] about applying clustering technique on America financial market. For example, using Self-organizing map(SOM) to cluster stocks and financial ratio for fundamental analysis, using SOM to find the valuable stock. These all researches want to find the characteristic of the stocks. However, most these researches use SOM clustering technique, and focus on America financial market. It seems that few researches do similar thing in Hong Kong stock market. Moreover, these researches only want to find the characteristic of stocks. In real case, investors will not only purchase one stocks. They will construct a stock portfolio to eliminate the risk. So I want to apply similar approach on Hong Kong stock market and change the clustering technique to K-means, not SOM. And I not only want to cluster the stocks, but also the portfolio. I want to cluster many combinations of the portfolio as I can to find the characteristic of different combinations of the portfolio. I am interested in investment, and I study information technology in university. I want to combine two aspects for my final year project. And I believe this project is very useful for my future career. I have read relative books, papers for getting the basic idea and concept of portfolio and data mining. In this project, I use many technical skills, methods and knowledge learnt from City University of Hong Kong in the past three years. Java programming is used to do the data preprocessing like normalization, financial calculation. It is also used to generate the combination of the portfolio and the simulation of K-means. MYSQL database is used to store the data of stocks and portfolio. The simulation result is also stored in the database. 3. Objectives In this final year project, there are several objects: 1. To investigate the characteristic of stocks in Hong Kong stock market. 2. To investigate the characteristic of different stock portfolios in Hong Kong stock market. 3. To determine that different combination of stocks how to affect the performance of the portfolio. 4. To investigate the strength and weakness of applying K-means on financial data. 4. Report outline  There are total 6 chapters in this report. Following this Chapter 1 Introduction, Chapter 2 Literature Review refers to related theories applied on the simulation, result analysis and discussion. Chapter 3 Simulation presents the methodology, project flow chat of the simulation. Chapter 4 Result Analysis will do the data processing of the result from the simulation. Chapter 5 Further Development will discuss the further development and improvement of the project. At the end, Chapter 6 Conclusion will do the conclusion of the whole project. 5. Chapter Summary This chapter mentions the background of the project. It also presents the motivation of this project and give the objective, report outline to the readers for better understanding of the project.