International Journal of Advanced Engineering Research and Science (IJAERS) [Vol-5, Issue-11, Nov- 2018] https://dx.doi.org/10.22161/ijaers.5.11.7 ISSN: 2349-6495(P) | 2456-1908(O) www.ijaers.com Page | 27 Evaluation of Risk Reduction for Portfolio in Islamic Investment Using Modern Portfolio Theory Nashirah Abu Bakar 1 , Sofian Rosbi 2 1 Islamic Business School, College of Business, Universiti Utara Malaysia, Kedah, Malaysia Email: nashirah@uum.edu.my 2 School of Mechatronic Engineering, Universiti Malaysia Perlis, Malaysia Email: sofian@unimap.edu.my Abstract — Main objective of this study is to maximize expected return and in the same time lowering investment risk. The methodology implemented in this study is modern portfolio theory through diversification assets that has low or negative correlation factor. This study tried to discover the portfolio expected risk and portfolios risk for 3 stocks namely Top Glove Corporation Berhad, AirAsia X Berhad and Axiata Group Berhad. Data for the analysis is selected from June 2015 until September 2018 involving 40 monthly observations. Result indicates the correlation factor between Top Glove and Airasia X is negative; meanwhile other correlation is not significant. Therefore, the selection of these three stocks is complying with the requirement of modern portfolio theory. Result indicates there are nine optimal combinations that calculated in this study which are suitable to develop non-linear line of efficient frontier. Data shows with the increment weightage in Top Glove stock, the expected average return will be increase. This is because the mean average return for share price of Top Glove 3.65%. This is the highest return comparing to other two stocks. However the risk of share price of Top Glove is 8.6 %, which is on the risky side. In addition, this study concludes the portfolio can attained lower risk by combining three stocks. The important implication of this study is it will help investors to develop optimal investment to attain maximum expected return based on a given level of market risk. Keywords— Investment, Modern Portfolio Theory, Three stock combination, Portfolio Risk, Portfolio Expected Return I. INTRODUCTION Portfolio optimization is one of the most interesting researches in the financial area. It was attracted most investors to get high return from the selection of portfolio at a pre-specified level of risk. In the global economy, portfolio optimization has become an important issue in generate high return and reduce the level of investment risk. Therefore, diversification of investment is looking as one of the alternative in generating high return. Diversification is a portfolio strategy that is designed to reduce the overall risk exposure by combining a variety of assets into one basket of portfolio. Small capital stocks tend to produce a higher return since these stocks are far less accessible to international investors due to the high transaction costs associated with their limited liquidity, capital rationing and information availability (Bin and Yuan, 2016). Recent evidence suggests that diversification of investment can reduce the level of risk. Study by Abu Bakar and Rosbi (2018) regarding Modern Portfolio Theory found the optimal combination of securities was generated maximizes return for any given level of risk. In recent years, there has been an increasing interest in shariah-compliant companies industry. Investors are not only concerned about what is profitable but also what makes their investments ethical (Mohd-Sanusi, et, al., 2015; Ulrich and Marzban, 2008). Therefore, Malaysia Stock Exchange was established a shariah board in 1997 in order to fulfill the ethical investments in shariah law. Since shariah board was established, out of 693 companies from 901 was shariah-complaint companies (Securities Commission Malaysia, 2018). Thus, investors have many choices to choose an optimal investment either in shariah-compliant companies or non shariah- compliant companies. Thus, this main objective of this study is to discover the relationship between portfolios expected return with respect to portfolio risk using combination of three stocks namely Top Glove Corporation Berhad, AirAsia X Berhad and Axiata Group Berhad. This study was evaluating risk reduction for portfolio in Islamic investment using Modern Portfolio Theory. Modern Portfolio Theory has become the backbone of finance as it