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  1. Dr. Leena B. Dam Security Analysis and Portfolio Management
  2. Security Analysis + Portfolio Management Security Analysis = Valuation and analysis of individual securities Portfolio Management = The selection, revision, and evaluation of a group assets
  3. Unit 1: Markets and Financial Instruments
  4. Learning Objectives: 1. To understand the different types of financial markets. 2. To learn the various kinds of investment instruments. 3. To analyses the risk and return associated with various investment instruments. 4. To differentiate between Investment and Speculation 5. To learn to prepare financial plans for individual investors.
  5. Financial Market Money Market Organise d Call Money Treasur y Bill Certificate Of Deposit Commer cial Paper Unorganise d Hund i Chit Fund Mone y Lende r Capital Market Organise dCorporat e Securitie s Primary Secondary Deb t Unorganise d Others Derivatives Futures Foreign Exchange Commodity
  6. Cost of Living Why Investment? Goals of Life How to achieve? Own House Children’s Education Daughter’s Marriage Peaceful Retirement Legacy for next generation Save part of the earnings Make the earnings sweat to expedite reaching the goal Investments are required because • Savings alone will not be enough to meet the goals • Costs of inflation InvestmentAmount Nominal Valueafter 10 years Real Value after10 years Cash stored at house Rs. 100 Rs 100 Rs. 61.4 (at 5% inflation) Invested (6% return) Rs. 100 Rs 179 Rs. 110 (at 5% inflation) Why Investment
  7. Inflation/Interest • Rate at which the value of currency decreases. • Money can't buy the same amount of goods in the future. • At 5% inflation, 1kg sugar that costs 40 rupees now will cost 65 rupees after 10 years. • Rate charged by the lender to the borrower of money. • Rate at which value of money invested increases. • At 8% interest, 10,000 rupees invested today will value 22,000 rupees after 10 years Inflation Interest Inflation/Interest
  8. Inflation/Interest Illustration Price of 1kg sugar with inflation 5% Rs. 40 Rs. 65 Rs. 65 Present Value After 10 years (without investing – kept idle in a locker ) Value after 10 years (with investing at 8%) Value of Rs. 1000 Rs. 1000 Rs. 1000 Rs. 2160 Quantity of sugar that can be bought 1000/40 = 25 kgs 1000/65 = 15.4 kgs 2160/65 = 33.2 kgs Inflation/Interest Illustration
  9. Power of Compounding • Compound interest is the interest on the Principal along with accumulated interest. • Money invested gives more money as it gets compounded – Interest on interest Tounleash the power ofcompounding Invest early Invest regularly Invest for long-term not the short-term “Compounding interest is the greatest mathematical discovery of all time” - Albert Einstein Power of Compounding
  10. Illustration • Ramu and Krishna save Rs. 20000 at the end of each year. • Ramu invested in a financial instrument that gives 10% returns and Krishna didn't want to take any risk and so he saved his money in savings bank that gives 3.5% returns. • After 10 years Krishna realizes the power of investment and starts to invest instead of saving. Money with Ramu Money with Krishna After 10 years Rs. 3,18,800 Rs. 2,34,620 Money with Ramu Money with Krishna After 20 years Rs. 11,45,500 Rs. 9,27,320 Total Money Invested Rs. 20,000 X 20 = Rs. 4,00,000 Rs. 20,000 X 20 = Rs. 4,00,000 Total Gain Rs. 7,45,500 Rs. 5,27,000 Power of Compounding Illustration
  11. What is Investment? Investment is the current commitment of money for a period of time in order to derive future payments that will compensate the investor for: - The time the funds are committed - The expected rate of inflation - The uncertainty of the future payments.
  12. How to select investments that will give investors their required rate of return? Real vs Financial Investment Amount Time horizon Extent of liability Uncertainty Impact of time and risk Liquidity Investment Vs Speculation Investments Vs Gambling
  13. Liquidity Maturity Need for regular income Time Horizon Risk Tolerance Tax Liability Investment Constraints
  14. Categories of Investor Aggressive – high risk and expects higher return in capital gain Conservative – low risk and low return, regular income Balanced – Some risk and expects moderate returns The price of a security in the financial markets: decided by forces of demand and supply Types of Investors Individual Investors Institutional Investors Foreign Investors
  15. Fundamental Principles of Investment Safety Liquidity Risk Return Risk, return and diversification Combining securities in a portfolio Results in a lower level of risk Than a simple average of the risks of each Investment in securities which are negatively correlated
  16. Asset Allocation Model/Portfolio •In a portfolio, investments are made in two or more assets. •To achieve a given level of returns with the min risk possible. Factors considered for Asset Allocation Goal Investor’s Risk Tolerance Time Horizon Asset Allocation for different investors Asset Allocation Model/Portfolio
  17. Stage of Life - Investment Insurance Small Savings Two Wheeler Home Four Wheeler TaxSaving Schemes Equity Mutual Funds Child Education Gold Mutual Funds Young Age Early Middle Age Early Young Age Middle Age Security against Uncertainty Tax Saving Plans and Early stages of Wealth Building Wealth Building Retirement Planning Stage of Life
  18. What are securities? Definition – a legal representative of the right to receive prospective future benefits under stated conditions. Generic term used for those documents evidencing liabilities that are negotiable – that can be bought or sold in the market.
  19. Types of Instruments Gilt Edged Securities Corporate Debentures Bonds Preference shares Equity Shares Mutual Funds
  20. Non Security Forms of Investment •National Saving Schemes •Post Office Savings Deposit Schemes •Deposits with Commercial Banks •Corporate Fixed Deposits
  21. Investment Process 1. Set Investment Policy (Amt, Duration, Risk, Return) 2. Perform Security Analysis (in which security desired objective can be best fitted) 3. Construct a portfolio (Choosing securities and diversify) 4. Revise the portfolio (necessary to review to check if desired objective is fulfilled) 5. Evaluate performance (After a certain period)
  22. Meaning of Investment Investment refers to the acquisition of the asset, in the expectation of generating income. In a wider sense, it refers to the sacrifice of present money or other resources for the benefits that will arise in future. The two main element of investment is time and risk Nowadays, there is a range of investment options available in the market as one can deposit money in the bank account, or can acquire property, or purchase shares of the company, or invest your money in government bonds or contribute in the funds like EPF or PPF. Investments are majorly divided into two categories i.e. fixed income investment and variable income investment. In fixed income investment there is a pre-specified rate of return like bonds, preference shares, provident fund and fixed deposits while in variable income investment, the return is not fixed like equity shares or property.
  23. Definition of Speculation Speculation is a trading activity that involves engaging in a risky financial transaction, in expectation of making enormous profits, from fluctuations in the market value of financial assets. In speculation, there is a high risk of losing maximum or all initial outlay, but it is offset by the probability of significant profit. Although, the risk is taken by speculators is properly analysed and calculated. Speculation ca be seen in markets where the high fluctuations in the price of securities such as the market for stocks, bonds, derivatives, currency, commodity futures, etc.
  24. BASIS FOR COMPARISON INVESTMENT SPECULATION Meaning The purchase of an asset with the hope of getting returns is called investment. Speculation is an act of conducting a risky financial transaction, in the hope of substantial profit. Basis for decision Fundamental factors, i.e. performance of the company. Hearsay, technical charts and market psychology. Time horizon Longer term Short term Risk involved Moderate risk High risk Intent to profit Changes in value Changes in prices Expected rate of return Modest rate of return High rate of return Funds An investor uses his own funds. A speculator uses borrowed funds. Income Stable Uncertain and Erratic Behavior of participants Conservative and Cautious Daring and Careless Difference between Investment and Speculation