Introduction to investment

The basic concepts of investment management, with features, objectives and discussed in this topic.

1. Investment Management
Dr. Mohammed Arif Pasha
Principal
Brindavan College
Bangalore -560063

2. Investment management
Lesson plan
• Few stories on investment
• Meaning of investment
• Concepts of investment (Savings, gambling, arbitrage and speculation)
• Difference between investment and Speculation
• Types & Objectives of investment
• Motives for savings and investment
• Features of investment program
• Investment decision, factors influencing the same
• Factors favorable for investment
• Investment process
• Types of investors
• Investment constraints
• Activity

3. Fox and the grapes

4. Thirsty crow

5. INVESTMENT
Investmentisthe
sacrificeofsomepresentsurplus
forthefuturereward.
tomeetthefutureneeds.
peopleirrespectivebackgroundmakeinvestmentin
either physicalorfinancialassets.
donotliketokeepsurpluscashidleitdoesnotreturn
investmentin
financialassetslikesecuritiesordeposits
orinrealassetslikeproperties,goldorother
assets.
abusinessinvestsitsexcessinsecuritiesor
project.

6. •allthosewhoinvest
–donotbenefitfromitasinvestmentisariskyactivity.
•Investmentisanart
–oneshouldhaverequisiteknowledge.
•andcarefulwhileinvesting.
•Thedegreeofriskvariesdependonthetypeof
investment.
–equitysharesareattractivebutrisky
–debtinstrumentslikegovernmentbondsgivelessreturns
butaresafe.
•Toreduceriskandmaximizereturns,
–knowingalternativesbeforeinvestingisimportant.
•Letusknowtheconceptsofinvestment.

7. Concepts relating to investments
Savings
•Excessofincomeoverexpenditure.
•Puttingmoneyasidetomeetemergency.
•Encourages theinvestmentsthroughfinancial
intermediationandflowoffundsinthecapitalmarket.
•Thesaverhasalowriskandshorttimepreference.
•Theyarebankdeposits,postofficedepositsetc.
•Oftencalledcashinvestments.
•Bestaftertaxreturncoupledwithlowriskandready
accessibility.
•Returnisintheformofinterest.
•Peoplesaveasaprecautionforincreasingtheir
wealth.

8. Gambling
•Isaveryshortterminvestmentinagameof
chance.
•Involveshighriskandtheexpectationsof
highreturns.
•Consistsofuncertaintyandhighstakefor
thrillandexcitement.
•Typicalexamplesarehorseracing,card
game,lotteryetc.
•Basedonrumours,tipsandhunches.
•Isunplanned,non-scientificandwithout
knowledgeoftheexactnatureofrisk.

9. Characteristics of gambling
•Itisatypical,chronicandrepetitive
experience.
•Thegamblersneverstopwhilewinning.
•Theyenjoyastrangethrillfromgambling,
bothpleasureandpain.
•Theydisplaysoptimismwithoutwinningthe
game
•Theyriskmorethanwhattheycanafford.

10. Arbitrage
•Aplannedmethodofputtingthesavingssafelyinto
differentinvestmentstogetabetterreturn.
•Amechanismtokeeponesrisktotheminimumby
hedgingandtakingadvantageofpricedifferences.
•Asimultaneouspurchaseandsaleofanassetin
ordertoprofitfromadifferenceintheprice.
•Thistakesplaceondifferentexchangesormarket
places.
•onecanbeanarbitrageurifhebuysandsells
securitiesinmorethanonestockexchangetotake
advantageofthepricedifferentialsinsuch
exchanges.
•Derivativemarketisanexampleofarbitrage

11. Speculation
•Itisasaninvolvementoffundsofhighrisk
andmoreuncertainexpectationofreturns.
•Itisforshortperiodwherepeoplebuyassets
withthehopetoearnprofitfroma
subsequentpricechange.
•Itisbasedontheexpectationthatsome
changewilloccur.
•Stockbrokersareasanexamplewhobuy
sharestomakequickprofitbysellingwhen
thepricesofsuchsharesshootup.

12. •Speculationinvolvesahigherlevelofrisk
andmoreuncertainexpectationofreturns.
•Specializedknowledgeisessentialforthe
success.
•Theyfeelthemarketwhichenablesthemto
sensethechanges.
•Aspeculatortakesactiononlywhenthings
arehigherinhisfavour,buthemaynotbe
rightallthetime.
•Ifheisrighthalfofthetimeheishittinga
goodaverage.

13. How Speculation differs from investment?
Basis Speculation Investment
1 Contracttype Ownership Creditor
2 Sourceofincome changeinmarketpriceEarningofenterprise
3 Objectiveofpurchase Tips,hunchesetc Higherreturn
4 Stabilityofincome Uncertain Stable
5 Riskinvolved High Low
6 Duration Short Long
7 Acquisition Onmargin Outrightpurchase
8 Attitude Aggressive Conservative

14. How investment is different from
speculation?
RISK
•Inspeculation,possibilityofincurringalossinafinancialtransaction.As
involvementoffundsofhighrisk,thedegreeofriskcannotbeexactly
drawnasitarbitrary.Somecarryhighrisk&somecarrylowrisk.
•Investmentinvolveslimitedriskandconfinedtosafetyavenues.The
amountofriskhelpsinunderstandingbetweenthetermsinvestmentand
speculation.
Capital gain
•Ifthemotiveisonlytomakeprofitthroughpricechanges,itisspeculation.
Buyingatlowandsellingathighmakinglargeprofit,isspeculation.
•Butifpurchaseofsecuritiesisprecededbyproperinvestigationandanalysis
andreviewtoreceivestablereturnoveraperiodoftime,itistermedas
investment.
Time
•Alonger-termfundallocationistermedasinvestmentwhileshort-term
holdingisforthequickreturniscalledspeculation.

15. TYPES OF INVESTORS
•Thevariousinvestorsare:
•Thosereceivelargeamountbywayof
redundancyorretirementbenefit.
•Thosewhowinlargeamountfromlottery
andotherssources.
•Smallinvestors.
•Peoplewhowishtosetasideregularsumof
moneytobuildupfundsforfutureforhouse
orforholiday.

16. Objective of investment
yield
choice
Minimum
comfort
Capital
appreciation

17. Objectives of investment
Yield
•Highertheyield,higheristherisktakenbytheinvestors.
risklessreturnisthebankdepositastheriskisleastwith
safefundsandreturnsarecertain.
Choice
•Thosewhoareriskaverseputtheirfundsinbankorpost
officedeposits,someinvestinrealassets,andlandand
buildingswhileothersinvestmostlyingold,silverand
diamonds.
Minimum comforts
•Everyinvestoraimsatprovidingforminimumcomfortsora
home,furniture,vehicles,consumerdurablesandother
householdrequirements.Aftersatisfyingtheseminimum
needs,heplansforhisincome,savingsininsurance,
pensionandprovidentfundsetc.Inthechoiceofthese,the
returnissubordinatedtotheneedsoftheinvestor.
Capital appreciation
•Savingswouldbeinvestedinfinancialassetstogetfuture
incomesandcapitalappreciationtoimprovefuturestandard
ofliving.Thesemaybeinstock,capitalmarketinvestments.

18. Motives behind savings
Precautionary
Transaction
speculative

19. Motives for savings and
investments
•Themotivesbehindsavingsorinvestmentsare:
Precautionary motive
•Theworldwhichisfullofuncertaintywhichmayariseanytime
andtoprotectfromsuchemergencies,peoplesaveorinvest
moneyandtakeprecautions.
Transaction motive
•Transactionmotivereferstorequirementofcashfortheconduct
ofdaytodayactivity,andcashbeingalegaltender,theseare
settledthroughcash.moneyisneededtomeetthedaily
requirementswhichmaybeinfloworoutflowofcash.
Speculative motive
•Peoplemakeuseoftheopportunities,fromunexpectedfuture.
Thisisgenerallydoneinthestockmarketwheresharesare
boughtandsoldbythebrokerstotakeadvantageoftheriseor
fallinthevalueofshares.

20. Features of investment program
•Thefeaturesofinvestmentprogram
consistof:
•Liquidity
•Safetyofprincipal
•Taxbenefits
•Incomestability
•Purchasingpower
•Capitalgrowth

21. Investment Decision
Investmentdecisionisbasedonthe
•availabilityofmoneyandinformation
•intheeconomy,industryandcompanyandthe
•sharepricesrulingandexpectationsof
•themarketandofthecompaniesinquestion.

22. Factors influencing the investment
decisions
1
•Investmentdecisiondependsonthemoodof
themarket.
•sharepricesdependonthecompany’s
fundamentalsupto50%andtherestisdecided
bythemoodofthemarketandthecompany’s
performance.
•Theseexpectationsdependontheanalyst’s
abilitytoforeseeandforecastthefuture
performanceofthecompany.
•Presentpricesdependsontheflowofreturns
infuturefromthecompany.

23. 2
•Decisiontoinvestisbasedonthepast
performance,presentandthefuture
expectationsofthe company’s
performance,bothoperationallyand
financiallywhichwillinfluencetheshare
prices.

24. 3
•Investmentdecisiondependson
–theinvestor’sperceptiononwhetherthepresentshare
priceisfair,overvaluedorundervalued.
•Ifthesharepriceis
–fair,investorwillholdit,
–overvalued,willsellitand
–undervalued,willbuyit.
•someinvestorsmaybuyastheirexpectationsof
furtherriseevenifpricesgohigh.
•Theconceptsofovervaluationorundervaluation
isrelativetotime,spaceandman.
•Whatmaybeovervaluedtodaymayundervalued
laterfollowinglaterdevelopments;informationor
sentimentandmoodofthemarketscenarioand
ofthevaluationofshares.

25. 4
•Theinvestmentdecisionmayalsodepend
onthe
–investor’spreference,moodorfancies.
•Hemayinvestin
–catsanddogsofcompanies,ifhehastakena
fancyorhefloodedwithmoneyfromlotteryor
prizes.
•Arationalinvestorwouldmakeinvestment
decisions
–onscientificstudyofthefundamentalsofthe
companyandinaplannedmanner.

26. 5
•Investorsdecisiondependon
–hearsayandadviceoffriends,relatives,sub-
brokersetc.andnotonanyscientificstudyof
thecompany’sfundamentals.
•Duetomushroomgrowthofcompanies
andlackofanytrackrecordofpromoters,
–riskwillincreaseifallinvestmentsmadeon
hunches,hearsay.

27. Factors favorable for investment
•Businessactivitiesareaffectedbysocial,
economicandpoliticalconsiderationsand
•henceitisimportantthatthepoliticaland
economicinstitutionsarefavorable.
•Generallytherearefourbasic
considerationswhichfostergrowthand
bringopportunitiesforinvestment.These
are:
–(a)Legalsafeguards,
–(b)Stablecurrency,
–(c)Existenceoffinancialinstitutionstoaid
savingsand
–(d)Formofbusinessorganizations.

28. INVESTMENT PROCESS
•PreliminaryScreening
•NegotiatingInvestment:Itneedsanagreement
betweentheventurecapitalistandmanagement
tohaveaMoU.Then,venturecapitalistwillthe
viabilityofthemarkettoestimateitspotential.
theyusemarketforecaststhroughindustry
expertswhospecializeinestimatingthesize
andgrowthratesofmarketsandsegments.
•ApprovalsandInvestmentCompleted:This
involvesduediligenceanddisclosureofall
relevantbusinessinformation.Finaltermswill
benegotiatedandtheproposalissubmittedto
thefund’sboardofdirectors.Ifapproved,legal
documentsareprepared.

29. Investment Media
•The various media of investment are as follows:
•Direct investment alternatives
•Fixed principal investment
•Cash, (b) Savings account, (c) Saving certificates, (d)
Government bonds and
•(e) Bonds and debentures
•Variable principal securities
•Equity shares, (b) Convertible debentures or preference
securities
•Non-Security Investments
•Real estate, (b) Mortgages, (c) Commodities, (d) Business
ventures, (e) Art, antiques and other valuables.
•Indirect Investment Alternatives
•Pension fund, (b) Provident fund, (c) Insurance, (d)
Investment companies and
•(e) Unit Trust of India and other trust funds.

30. INVESTMENT PROCESS
•Investmentmanagementisariskyandcomplexactivity.Theprocesson
investmentinvolvesthefollowingsteps:
•Objectivespecification:Investorswillalwaysconsidertheirpresentincome,
safetyofprincipalandcapitalappreciation.Theinvesting,mustconsiderineach
kindofassetwithitsspecificrestrictionswithregardtoliquidity,maturityandtax.
•Mixofasset:Investmentshouldbemadeinassetslikeequityshares,bonds,
fixedincomesecurities,bankdeposits.Equitysharesyieldbetterreturnsbut
carryrisk,whileothersarelessriskybutyieldlessreturns.Theappropriatemix
ofdebtandequitygenerallydependsontherisktoleranceoftheinvestor.
•Portfolioformulationstrategy:Choosetotakeariskyinvestmenttoearnbetter
riskadjustedreturnsorcandiversifyinvestmentatapredeterminedlevelofrisk.
•Selectionofsecurities:Doafundamentalanalysisortechnicalanalysisofthe
securitytoselectstock.considercreditratingofaninstrument,taxshelter,yield
tomaturityandliquiditytoselectbondsorotherfixedincomesecurities.
•PortfolioRevision:Reviseportfoliobychangingcompositionofsecuritiesto
rebalancetheportfolioofsecurities.
•Portfolioevaluation:Evaluatetheperformanceofportfoliofromtimetotime
becauseriskandreturnarethekeyissues.Suchanevaluationprovidesauseful
feedbacktoimprovethequalityofportfoliomanagementonaregularbasis.

31. Types of investors
•Dependingontheattitudetowardsrisk,investors
areclassifiedintothreetypes:
•varyinglevelsofriskbearinginvestorsinthe
market.
•Factorslikeincome,taxliability,riskperception,
sizeofthefamily,age,education,genderetc.,
influencestheinvestorstotakedecisions.
•Someinvestorshaveaffinityforriskwhileothers
areriskaverse.
•Apersonwithbetterincomeisassumedtohave
higherriskbearingcapacity.
•Thevarioustypesofinvestorsarerisktakers,risk
neutralsandriskaverters.

32. Investment Constraints
•Aplanmustconsiderbothinvestmentobjectives
andconstraints.
•Majorconstraintsinclude
–liquidity,
–timehorizon,
–taxconcerns,
–legalandregulatoryconcernsand
–uniquecircumstances.

33. Liquidityreferstotheneedforcashinexcessofanysavings
ornewcontributionsavailableataspecificpointinthefuture.
ALiquidityneedsmaybe
planned(child’scollegefundingin10years)
orunplanned(amedicalemergency)
butbothrequirereadyabilitytoconvertinvestmentsintocash.
Someassets,suchasrealestate,maytakeconsiderabletimeto
sell.
Others,suchascertificatesofdeposit,mayimposeearly
withdrawalpenalties.

34. •Timehorizontypicallyreferstothetimeatwhichaninvestment
objectivemustbemet.
•Someobjectivessuchassavingforahousemayhaveashorttime
horizon,
•whileretirementorendowmentplanningcanhavelonghorizons.
Investorsmustoftenplanforseveraltimehorizonsatonce.
•Thetimehorizoninfluencestheabilitytoacceptriskandcould
modifyassetallocationstrategy.
•Investorswithlittletolerancefortemporaryreturnfluctuationsmay
needadifferentplanthanwouldbesuggestedbytimehorizon
alone,andmultipletimehorizonscanfurtherconstrainallocation
decisions.

35. •Taxconcernsincludedifferencesbetweenthetaxrates
fordifferenttypesofinvestment
•Return(interestversuscapitalgainsordividends),
estatetaxes,differencesbetweencurrentincome,
retirementincome,taxrates,andthepotentialfortax
legislationtochange.
•Legalandregulatoryfactorsmayincludelimitsonthe
allocationtospecificassets,theabilitytoaccesscertain
fundsandevenprohibitionsoncertaininvestments.
•Uniquecircumstancesmayincludesocialconcernsand
specificfamilyneeds.

36. Topics for the next class
•Financial instruments
•Money market instruments
•Capital market instruments
•Derivatives