Chapter 1

Investment Scenario
Savings and Investment Two sides of a coin

What is Investment?
Investment is the employment of funds on assets
with the aim of earning income or capital
appreciation
Investment has 2 attributes
Time
Risk
Present consumption is scarified to get a return in
the future
Investment is a placement of capital in
expectation of deriving profit

speculation
Involves buying & selling activities
with the expectation of getting profit
from the price fluctuations.
Interested in getting abnormal return
Speculator is more interested in the
market action & its price movement
Line b/w speculation & investment is
very thin

Gambling
Game of chance
Very short term investment, time
horizon is shorter than speculation
People gamble as a way to entertain
themselves, earning income would be
the secondary factor.
No risk & return trade off in the
gambling & negative outcomes are
expected.
Financial analysis does not reduce the
risk proportion involved.

INVESTMENT VS. SPECULATION

INVESTOR
PLANNING
HORIZON
RISK
DISPOSITION

LONG

SPECULATOR
SHORT

MODERATE

HIGH

RETURN
EXPECTATION

MODEST

HIGH

BASIS FOR
DECISIONS

FUNDAMENTAL

LEVERAGE

NO

TECHNICAL

HIGH

INVESTMENT VS. Gambling

INVESTOR

Gambler

Planning

Long

Very Short

Risk Disposition

Moderate

Very High

Return Expectation

Modest

Very High

Basis for decision

Fundamental

Perceptions

Leverage

No

Very High

Investment Objectives

Main objective are increasing the Rate of

return & reducing the Risk
Liquidity
Investment could be converted into cash
without much loss of time
It depends on marketing & trading facility
Hedge against inflation
Rate of return should ensure a cover against
the inflation
Safety
Investment avenue should be under the legal
& regulatory frame work along with the safety
of the principal

INVESTMENT CONSTRAINT
Liquidity
Age
Need for regular income
Time horizon
Risk Tolerance
Tax Liability

Security is a generic term that refers to a debt or

equity IOU issued by a borrower or issuer.
- Debt security or bond an IOU promising
periodic payments of interest and/or principal
from a claim on the issuer's earnings
- Equity or stock an IOU promising a share in
the ownership and profits of the issuer

Stocks & Shares

Interchangeably used, but there is a diff

Share
Share capital of a company is divided into a no of small
units of equal values called shares
Stock
Is the aggregate of a members fully paid up shares of
equal value merged into one fund.
Equity shares have certain advantages
Capital appreciation
Limited liability
Free tradeability
Hedge against inflation

Investment Classification
Investment

Financial Investment
Fixed income

Real Investment

Variable income

Real assets are tangible, material thing such as buildings, automobiles etc
Financial assets are pieces of paper representing an indirect claim to real
assets held by some one else

Money market instruments

Treasury Bill
Certificate of deposit
Commercial Paper
Treasury Bills
Commercial bills
Repo & Reverse Repo

Certificate of Deposit

Introduced in 1989 in India.

Fixed interest rates and fixed tenure instruments issued by
banks and financial institutions.
Can be issued by Scheduled Commercial Banks
and
Selected Financial Institution (Permitted by RBI within the
umbrella limit fixed by RBI).
Maturity: Min. 7 days to Max. 12 Months (for Banks) Min. 1
Year to Max. 3 Years (For Financial Institutions)
Issued in denominations of 1 Lacs and multiples of 1 lacs
thereafter.
Can be issued to individuals, corporations, companies, trusts,
associations.
NRIs can also subscribe on nonrepatriable basis.

Commercial Paper
Commercial

Paper (CP) is an unsecured money market

instrument issued in the form of a promissory note.
CP is a short term unsecured loan issued by a corporation
typically financing day to day operation.
CP is very safe investment because the financial situation
of a company can easily be predicted over a few months.
Only company with high credit rating can issue CPs.
Maturities on commercial paper rarely range any longer
than 270 days.
The debt is usually issued at a discount, reflecting
prevailing market interest rates.

Eligibility for issue of CP

a) The

tangible net worth of the company, as per the

latest audited balance sheet, is not less than Rs. 4
crore;
b) The working capital (fund-based) limit of the
company from the banking system is not less than
Rs.4 crore and the borrowable account of the
company is classified as a Standard Asset by the
financing bank/s.

Meaning of Repo

It is a transaction in which two parties agree

to sell and repurchase the same security.
Under such an agreement the seller sells
specified securities with an agreement to
repurchase the same at a mutually decided
future date and a price
The Repo/Reverse Repo transaction can only
be done at Mumbai between parties approved
by RBI and in securities as approved by RBI
(Treasury Bills, Central/State Govt
securities).

Repurchase agreement
(Repos)
Repo

is a form of overnight borrowing and

is used by those who deal in government
securities.
They
are usually very short term
repurchases agreement, from overnight to
30 days of more.
The short term maturity and government
backing usually mean that Repos provide
lenders with extreamly low risk.
Repos are safe collateral for loans.

Repo Rates and Reverse Repo

Rates
RBI uses Repo and Reverse repo as instruments for
liquidity adjustment in the system
It helps banks to invest surplus cash
It helps borrower to raise funds at better rates
An SLR surplus and CRR deficit, bank can use the
Repo deals as a convenient way of adjusting.

Call Money Market

The call money market is an integral part of
the Indian Money Market, where the day-today surplus funds (mostly of banks) are traded.
The loans are of short-term duration varying
from 1 to 14 days.
The money that is lent for one day in this
market is known as "Call Money", and if it
exceeds one day (but less than 15 days) it is
referred to as "Notice Money".

Call Money Market

Banks borrow in this market for the following purpose
To fill the gaps or temporary mismatches in funds
To meet the CRR & SLR mandatory requirements as
stipulated by the Central bank
To meet sudden demand for funds arising out of large
outflows.

Banker's Acceptance
A

bankers acceptance (BA) is a short-term

credit investment created by a non-financial
firm.
BAs are guaranteed by a bank to make
payment.
Acceptances are traded at discounts from
face value in the secondary market.
BA acts as a negotiable time draft for
financing
imports,
exports
or
other
transactions in goods.
This is especially useful when the credit
worthiness of a foreign trade partner is
unknown

A treasury bills nothing but promissory note issued by

the Government under discount for a specified period
stated therein.
The Government promises to pay the specified
amount mentioned therein to the bearer of the
instrument on the due date.
The period does not exceed a period of one year.
It is purely a finance bill since it does not arise out of
any trade transaction.
It does not require any grading or endorsement or
acceptance since it is clams against the
Government.
Treasury bill are issued only by the RBI on behalf of
the Government.

 Treasury

bills are issued for meeting temporary

Government deficits.
They
are issued with three-month, six-month
and one-year maturities.
T-bills are purchased for a price that is less than
their par(face) value; when they mature, the
government pays the holder the full par value.

Gilt edged securities

The term government securities encompass

all Bonds & T-bills issued by the Central
Government, and state governments. These
securities are normally referred to, as "giltedged" as repayments of principal as well as
interest are totally secured by sovereign
guarantee.

Bills of Exchange

The bill of exchange (B/E) is a trade related instrument.

A written, unconditional order by one party (the drawer) to
another (the drawee) to pay a certain sum, either immediately
(a sight bill) or on a fixed date (a term bill), for payment of
goods and/or services received.
The drawee accepts the bill by signing it, thus converting it into
a post-dated check and a binding contract.
An accepted draft or bill of exchange can be sold for early
payment to a bank or credit institution at less than face value
after the bank deducts fees and applicable interest charges.
Which is called as bill discounting.
The bank or credit institution then collects full value on the
draft or bill of exchange when payment comes due.

Equity Shareholders
They are the owners of the company,
sharing its risks, profits, and losses.
They have a residual claim on the earnings
and assets of a company.
They are paid their share of the companys
profits after all other claims are met, and in
the event of the liquidation of the company
they share whatever is left of the company
after all its creditors have been paid.
They enjoy limited liability, i.e., liability only
to the extent of their shareholding.
Only equity shareholders are entitled to vote
at the companys meetings, thus controlling
the management.
If the company prospers, it is the equity
shareholders who is the greatest gainer.

CLASSIFICATION OF EQUITY SHARES

BLUE-CHIP SHARES

GROWTH SHARES
INCOME SHARES
CYCLICAL SHARES
DEFENSIVE SHARES
SPECULATIVE SHARES
SWEAT EQUITY
sweat equity shares means such equity shares has are issued by a
company to its directors or employees at a discount or for consideration,
other than cash, for providing their know-how or making available rights
in the nature of intellectual property rights or value additions

FINANCIAL DERIVATIVES
A derivative is an instruments whose value depends on the
value of some underlying asset.
Futures A futures contract is an agreement between two
parties to exchange an asset for cash at a predetermined
future date for a price that is specified today.
Options An option gives its owner the right to buy or sell
an underlying asset on or before a given date at a
predetermined price.

MUTUAL FUND SCHEMES

Mutual Funds A mutual fund represents a vehicle for
collective investment. When an investor invests in a
scheme he becomes owner to the extent of the units
held by him.
Classified as
Open ended & closed ended
On basis of objective classified as
Growth schemes & income scheme
Equity Schemes
Balanced Schemes
Debt Schemes

REAL INVESTMENT
Land and House Property
Residential House
Commercial Property
Agricultural Land
Suburban Land

Gold and Silver

Precious Stones
Art Objects

Economic vs financial investment

FinanciaI investment
A financial investment allocates resources into a financial asset,
such as a bank account, stocks, mutual funds, foreign currency and
derivatives.

Financial investments are purchases of financial claims.

This type of investment may or may not yield a return.

Economic Investment

An economic investment puts resources in something that may

yield benefits in excess of its initial cost.
Though these resources still include money, investments can also
be made in time, asset creation assistance and mentoring.
An economic investment may include buying or upgrading
machinery and equipment or adding to a labor force.

Investment process
1- Setting the Investment Objectives:
The first and the basic step for investment is that the investor
should set his investment objectives.

These investment objectives vary from person to person.

2- Establishing Investment Policy:
Establishing investment policy refers to the allocation of asset
amongst the major allocated assets in the capital market.

The range of allocated asset is from equities, debt, fixed

income securities, real estate, foreign securities to currencies.

Restraint of environment and that of investor should be kept

in mind while establishing the investment policy.

Investment process
4- Selecting the Assets:The assets to be placed in the portfolio have to be selected by the investor.
This is the point where real creation of portfolio will take place after the
selection of assets in which to invest by the manager or investor. That asset
will be selected which will give best return in available resources and which
involves lowest risk. The assets can be shares, stocks, art objects, securities,
gold, property etc.

5- Measuring and Evaluating Performance: In this step the performance of the portfolio will be measured in
comparison to the realistic benchmark or the standard set by the
investor. Risk and return will be evaluated by the manager.
Measuring and evaluating the portfolio will give the feedback to
the investor and will in turn help the investor to improve the
quality as well as the performance of the portfolio of investment.