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12/11/2012 BY: PROF. N.N.PANDEY 1

SECURITY

Investments in capital markets are in various financial instruments. These instruments may be of various category with different characteristics.

**These are called securities in the market parlance.
**

It includes shares,bonds,debentures or any marketable securities of a like nature of any company,Govt.securities or semiGovt.bodies.

12/11/2012

BY: PROF. N.N.PANDEY

2

SECURITY ANALYSIS

Security analysis in both traditional sense and modern sense involves the projection of future dividend, or earnings flows,forcast of the share price in the future and estimating the intrinsic value of a security based on the forecast of earnings or dividends. In addition to above, the modern approach includes risk and return analysis for the securities. Basically securities analysis contains the analysis of: The trend and scenario of the economy. The trend and scenario of the industry to which company belongs. The strength and weakness of company itself viz. promoters and management track record, financial results, projections of expansion,diversification,tax planning etc.

BY: PROF. N.N.PANDEY 3

12/11/2012

PORTFOLIO

A combination of such securities with different risk-return characteristics will constitute the portfolio of the investors.

Thus ,a portfolio is a combination of various assets and/or instruments of investments.

12/11/2012

BY: PROF. N.N.PANDEY

4

PORTFOLIO MANAGEMENT

Portfolio analysis includes portfolio construction, selection of securities, revision of portfolio, evaluation and monitoring of the performance of the portfolio.

All these are part of the subject of portfolio management which is a dynamic concept ,subject to daily and hourly changes based on the information flows and a host of economic and non-economic forces operating in the country on the markets and securities.

12/11/2012

BY: PROF. N.N.PANDEY

5

INVESTMENT

Investment is parting with one’s fund, to be used by another party, user of fund, for productive activity. It can mean giving an advance or loan or contributing to the equity(ownership capital) or debt capital of a corporate or noncorporate business entity. In other words, investing means building up to meet future consumption demand with the intention of making surpluses or profits, as they are popularly known.

12/11/2012

BY: PROF. N.N.PANDEY

6

**INVESTMENT ACTIVITY (ACQUISITION OF ASSETS)
**

1. FINANCIAL ASSETS 2. PHYSICAL ASSETS

CASH SAVER

HOUSE LAND BUILDINGS FLATS GOLD SILVER OTHER METALS

**BANK DEPOSITS INVESTOR P.F./LIC PENSION
**

3. MARKETABLE ASSETS

POST OFFICE CERTIFICATES & DEPOSITS

SHARES, BONDS, GOVT. SECURITIES, M.F. SCHEMES, UTI

CONSUMER DURABLES

NEW ISSUE

STOCK MARKET

12/11/2012

BY: PROF. N.N.PANDEY

7

**RISK-RETURN RELATIONSHIP
**

RISK : Risk is inherent in any investment. This risk may relate to

loss or delay in repayment of the principal capital or loss or nonpayment of interest or variability of returns. While some investments are almost risk less like Govt.securities or bank deposits, others are more risky.

RETURN: Return differs amongst different instruments. The most important factor influencing return is risk. Normally, the higher the risk ,the higher is the return. See the figure in the next slide……..

12/11/2012

BY: PROF. N.N.PANDEY

8

**RISK RETURN RELATIONSHIP
**

Venture fund(highest risk) Equity shares convertible debentures / MFs

Non-convertible debentures

RETURN

PSU BONDS

Lowest Risk (Bank deposits)

RISK

12/11/2012

BY: PROF. N.N.PANDEY

9

INVESTMENT VS SPECULATION

It is for a longer time horizon. It requires moderate risk. It’s objective is to get a moderate return with a limited risk. It considers fundamental factors and evaluate the performance of the company regularly. Investor uses his own funds and avoid borrowed funds.

It is for a short period of time. It requires higher risk. It’s objective is to get high returns along with higher risk. It considers inside information, hearsays and market behavior.

**Speculator uses borrowed funds to supplement his personal resources.
**

10

12/11/2012

BY: PROF. N.N.PANDEY

**THE INVESTMENT PROCESS
**

Determine the investment objectives and policies Undertake security analysis Construct a portfolio Review the portfolio Evaluate the performance of the portfolios

12/11/2012

BY: PROF. N.N.PANDEY

11

TYPES OF INVESTORS

The contrarians Trend followers and

Hedgers and holders

12/11/2012

BY: PROF. N.N.PANDEY

12

**THE INVESTMENT ENVIRONMENT
**

FINANCIAL INSTRUMENTS FINANCIAL INTERMEDIARIES

FINANCIAL MARKETS

12/11/2012

BY: PROF. N.N.PANDEY

13

**ASSIGNMENT FOR DISCUSSIONS- 1
**

DIFFERENT KIND OF SECURITIES: FOR EXAMPLE:

EQUITY SHARES SWEAT EQUITY NON-VOTING SHARES RIGHT SHARES BONUS SHARES CUMULATIVE PREFERENCE SHARES DEBENTURES BONDS ZERO COUPON BONDS DEEP DISCOUNT BONDS…….ETC….

BY: PROF. N.N.PANDEY 14

12/11/2012

CASELETS-1: Small Cement Company (SCC) , Efficient Cement Company (ECC) and Big Cement Company (BCC)

EVENT (effect on price) 5% decline Flat 5% increase 10% increase PROBABILITY RETURNS SCC ECC -5% 10% 25% 35% 0% 10% 20% 30% BCC 5% 10% 15% 25%

20% 30% 40% 10%

MAKE AN INVESTMENT CHOICE WITH JUST THESE DETAILS.

12/11/2012

BY: PROF. N.N.PANDEY

15

EXPECTED RETURNS

SCC : 20%* -5% + 30%* 10% + 40%* 25% + 10%* 35% = 15.5% ECC : 14% BCC : 12.5%

12/11/2012

BY: PROF. N.N.PANDEY

16

CASELETS – 2 & 3

(2) You have invested Rs. 50,000/- , 30% of which is invested in Company– A, which has an expected rate of return of 15%, and 70% of which is invested in Company- B, with an expected return of 12%. What is the return on your portfolio? What is the expected percentage rate of return? (3) The current market price of a share is Rs.300/An investor buys 100 shares. After one year he sells these shares at a price of Rs.360/- and also receives the dividend of Rs.15/- per share. Find out his total return, % return, dividend yield and capital gains and capital gains yield.

12/11/2012 BY: PROF. N.N.PANDEY 17

SOLUTION - 2

Return on portfolio: Company A : .30 x Rs.50,000 x .15 = Rs.2,250 Company B : .70 x Rs.50,000 x .12 = Rs.4,200

**TOTAL RETURN : 2,250 + 4,200 = Rs.6,450
**

Expected percentage rate of return: 6,450/ 50,000 x 100 = 12.9%

12/11/2012

BY: PROF. N.N.PANDEY

18

SOLUTION-3

Initial Investment = 300 x 100 = Rs.30,000 Dividend earned = 15 x 100 = Rs. 1,500 Capital gains = ( 360 – 300 ) x 100 = Rs.6,000 Total Return = 1,500+ 6,000 = 7,500 Total percent Return = 7,500/30,000 x 100 = 25% Dividend Yield = 15/300 x 100 = 5% Capital Gains yield = 6,000/30,000 x 100 = 20%

12/11/2012

BY: PROF. N.N.PANDEY

19

CASELETS - 4

Shares A and B have the following probability Distribution of possible future returns: Probability(pi) A (%) B (%) 0.1 -15 -20 0.2 0 10 0.4 5 20 0.2 10 30 0.1 25 50 (a) Calculate the expected rate of return for each share and standard deviation of return for each share (b) Calculate the coefficient of variation (c) Which share is less risky. Explain.

12/11/2012

BY: PROF. N.N.PANDEY

20

SOLUTION- 4

FOR SHARE A: r% pi ripi% (r – r¯)% (r-r¯)2 (r-r¯)2pi(%) -15 0.1 -1.5 -20 400 40 0 0.2 0 -5 25 5 5 0.4 2 0 0 0 10 0.2 2 5 25 5 25 0.1 2.5 20 200 40 r¯ = 5 σ2 =90 Since σ2 = 90 , σ = √90 = 9.5%

12/11/2012

BY: PROF. N.N.PANDEY

21

SOLUTION – 4

Similarly for share – B: Expected rate of return = 19% and S.D. = 17% (b) Coefficient of variation = σ / r For share A = 9.5% / 5% = 1.9 For share B = 17% / 19% = 0.89 ( C) Share B is less risky than share A. Since coefficient of variation ( a measure of relative risk) is smaller for Share B.

12/11/2012 BY: PROF. N.N.PANDEY 22

**RISK RETURN PROFILE OF TWO ASSET PORTFOLIO
**

Portfolio return, Rp = w1R1 + w2R2 Portfolio risk, σ2p = w21 σ21 + w22 σ22 + 2 w1w2 Cov(R1R2) Here, Cov(R1R2) = ρ σ1 σ2 And, w1+ w2 = 1 Or, we can write , σ2p = w21 σ21 + w22 σ22 + 2 w1w2 ρ σ1 σ2 now, we will examine two special cases of perfect positive correlation and perfect negative correlation which is very significant in portfolio theory.

12/11/2012

BY: PROF. N.N.PANDEY

23

**RISK RETURN PROFILE OF TWO ASSET PORTFOLIO
**

FIRM 1 FIRM 2 Return 15% 30% S.D. 10% 20% With perfect positive correlation ( ρ = +1) Portfolio return, Rp = w1R1 + w2R2 Portfolio risk, σ2p = w21 σ21 + w22 σ22 + 2 w1w2 σ1 σ2 = (w1 σ1 + w2 σ2)2 or, σp = w1 σ1 + w2 σ2

12/11/2012

BY: PROF. N.N.PANDEY

24

PORTFOLIO RETURN AND RISK WITH C.C. = 1 ALL FIGURES IN % 50 40 20 0 50 60 80 27 18 100 30 20

W1

W2 Rp σp

100

0 15 10

80

20 18 12

60

40 21 14

22.5 24 15 16

12/11/2012

BY: PROF. N.N.PANDEY

25

PORTFOLIO RETURN AND RISK WITH C.C. = - 1 Portfolio return, Rp = w1R1 + w2R2 Portfolio risk, σ2p = w21 σ21 + w22 σ22 - 2 w1w2 σ1 σ2 = (w1 σ1 - w2 σ2)2 or, σp = w1 σ1 - w2 σ2 ALL FIGURES IN % W1 100 80 60 50 40 20 0 W2 0 20 40 50 60 80 100 Rp 15 18 21 22.5 24 27 30 σp 10 4 2 5 8 14 20

12/11/2012 BY: PROF. N.N.PANDEY 26

**KEY INDICATORS IN INDUSTRY ANALYSIS
**

The analysts is free to choose his or her own indicators for analyzing the prospect of an Industry. However , many commonly adopt the following indicators. (A) Performance factors like: Past sales at least for three years Future sales for at least two years Past earnings at least for three years Future earnings for at least two years (B) Environment factors like: Attitude of government Lab our conditions Competitive conditions Technological progress (C ) SWOT analysis

12/11/2012 BY: PROF. N.N.PANDEY 27

**SOME RELEVANT QUESTIONS FOR INDUSTRY ANALYSIS
**

Are the sales of industry growing in relation to the growth in Gross National product ( GNP) ? What is overall return on investment (ROI) ? What is the cost structure of the industry ? Is the industry in a stable position ? Does the success or failure depend upon any single critical factor ? What is the impact of taxation upon the industry ? Are there any statutory controls in matters of raw materials prices, distribution etc ? What is the industrial relations scenario of the industry ? Is the industry highly competitive ? Is it dominated by one or two major companies ? Are they Indian or foreign ? Is there sufficient export potential ?Are international prices comparable to domestic prices ?

BY: PROF. N.N.PANDEY 28

12/11/2012

**ASSIGNMENT FOR DISCUSSION- 2
**

NEW ISSUE MARKET OR PRIMARY MARKET AND ITS FUNCTIONS PARTIES INVOLVED: Manager to the issue Registrar to the issue Underwriters Bankers to the issue Government and statutory agencies etc…. PLACEMENT TO THE ISSUE Offer through prospectus Bought out deals Private placement Right issue Book building etc

12/11/2012 BY: PROF. N.N.PANDEY 29

**ASSIGNMENT FOR DISCUSSION- 2
**

GREEN SHOE OPTION RED HERRING PROSPECTUS E-IPO QUALIFIED INSTITUTIONAL BUYERS (QIBs) STOCKINVEST FUNCTIONS AND POWER OF SEBI SECONDARY MARKET PRIMARY VS. SECONDARY MARKET FUNCTIONS OF SECONDARY MARKET PRINCIPAL WEAKNESSES OF INDIAN STOCK MARKET

12/11/2012

BY: PROF. N.N.PANDEY

30

**PORTFOLIO SELECTION THROUGH MARKOWITZ MODEL
**

The objective of every rational investor is to maximize his returns and minimize the risk . Diversification is the method adopted for reducing risk. It essentially results in the construction of portfolios. The proper goal of portfolio construction would be to generate a portfolio that provides the highest return and the lowest risk. Such a portfolio would be known as the optimal portfolio or efficient portfolio. The process of finding the optimal portfolio is described as portfolio selection The conceptual framework and analytical tools for determining the optimal portfolio in disciplined and objective manner have been provided by Harry Markowitz. His method of portfolio selection has come to known as the MAROWITZ MODEL. In fact MM is the base of modern portfolio theory.

BY: PROF. N.N.PANDEY 31

12/11/2012

**FEASIBLE SET OF PORTFOLIOS
**

With a limited number of securities an investor can create a very large number of portfolios by combining these securities in different proportions. This is also known as the portfolio opportunity set . Each portfolio in the opportunity set is characterized by an expected return and a measure of risk ,viz.,variance or standard deviation of returns. Not every portfolio in the opportunity set is of interest to an investor. In the opportunity set some portfolios will obviously be dominated by others. A portfolio will dominate another if it has either a lower standard deviation and the same expected return as the other, or a higher expected return and the same standard deviation as the other. Portfolios that are dominated by other portfolios are known as inefficient portfolios.

BY: PROF. N.N.PANDEY 32

12/11/2012

**EFFICIENT SET OF PORTFOLIOS
**

PORTFOLIO NO. 1 2 3 4 5 6 7 8 9 10 EXPECTED RETURN(%) 5.6 7.8 9.2 10.5 11.7 12.4 13.5 13.5 15.7 16.8 STANDARD DEVIATION 4.5 5.8 7.6 8.1 8.1 9.3 9.5 11.3 12.7 12.9

12/11/2012

BY: PROF. N.N.PANDEY

33

**SHARE VALUATION MODEL
**

The valuation model used to estimate the intrinsic value of a Share is the present value model. The intrinsic value of a Share is the present value of all future amounts to be received In respect of the ownership of that share, computed at an Appropriate discount rate. The major receipts that come from the ownership of a share Are the annual dividends and the sale proceeds of the share At the end of the holding period. These are to be discounted to find their present value at an Appropriate rate.

12/11/2012

BY: PROF. N.N.PANDEY

34

**SAPM—CLASS TEST – TOTAL MARKS--20
**

Q.NO.1 : A share is currently selling for Rs.65/-. The company is expected to Pay a dividend of Rs. 2.50 on the share at the end of the year. It is reliably Estimated that the share will sell for Rs.78/- at the end of the year. A. Assuming that the dividend and prices forecasts are accurate, would you buy the share to hold it for one year, if your required rate of return were 12% ? Given the current price of Rs.65/- and the expected dividend of Rs.2.50, what would the price have to be at the end of one year to justify purchase of the share today, if your required rate of return were 15% ?

B.

Q.NO.2 : What is YIELD TO MATURITY ? How is it calculated ?

12/11/2012

BY: PROF. N.N.PANDEY

35

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