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Set -1 Q1. Describe the investment process. Answer: Any investor who sincerely works towards making the most of the current market trend will never underestimate the importance of having an investment strategy predefined before he starts investing. Nevertheless, importance of a well-defined and suitable investment strategy cannot be underestimated. An investment strategy defines how an investor should go about choosing securities to invest in. It is a basic guide for where to invest, when to invest and how much to invest. There are five important steps in an investment process which should not be neglected. They are: 1. Defining an Investment strategy/policy 2. Analyzing securities 3. Constructing a portfolio to minimize risk 4. Evaluating the performance of the portfolio, and 5. Revising the portfolio An investor cannot define his investment strategy unless he defines his investment objective and investment surplus to his disposal. Objective of 'making more money' is very vague. Of course everyone wants to make more money! Objectives have to be clearly defined in terms of risk and return. Understanding the relationship between risk and return will go a long way while building a portfolio that can provide optimum returns for the amount of risk an investor can take. The second step of analyzing securities enables the investor to distinguish between underpriced and overpriced stock. Return can be maximized by investing in stocks which are currently underpriced but have the potential to increase (remember buy low sell high).
Q2. Explain money market features and its compositions. Answer: The Indian money market is a market for short-term money and financial asset that are close substitutes for money, which are close substitute for money, with the short-term in the Indian context being for 1
commercial bills. commercial papers. II) Treasury bill Market . Composition and Structure of Money market Structure means support on the basis body will stand. The rate of this loan is very high. 6. II) Commercial Banks:. The width of such area may vary depending upon the size and needs of the market itself. b) Unorganized Sector In this sector. notice money.This call loans is given without any security. The money market is basically a telephone market and all the transactions are done through oral communication and are subsequently confirmed by written communication and exchange of relative instruments.year. private banks which deals in short term loans with each other .RBI means reserve bank of India. rural banks . indigenous banks. 8. security. This is central bank of India. It is a wholesale market & the volume of funds or financial assets traded are very large i. III) Co-operative banks:. Features of Money Market: 1. In the structure of money market. It is issue short term loan when any bank has any need of short term money. term money. So there are following components which support the whole money market. stock exchange. In the district level central cooperative bank do dealing in short term loan.relationship & free movement of funds from one sub-market to another 3.Call money. there are two components are included 1st Composition or component – Financial institution There are two parts of financial institution in money market:a) organized sector In this sector there following dealer who deal short term loans in money market. I) RBI :. 2nd Composition or component – Financial Instruments or papers 1) Call money market Call money market is the market which deals in short term loans. A network of large number of participants exist which will add greater depth to the market. Nationalize bank . It is a collection of market for following instruments.In commercial banks. The important feature of the money market instruments is that it is liquid and can be turned quickly at low cost. 7. there are SBI . they want to invest in short term govt. one bank can take or give short term loan to each other when they need or extra money . The money market is not a well-defined place where the business is transacted as in the case of capital markets where all business is transacted at a formal place. 5. The relationship that characterizes a money market is impersonal in character so that competition is relatively pure.e.The co-operative banks are also take part in money market. certificate of deposits. inter-bank participation certificates. treasury bills. money lenders deal with each other or with organized sector. A certain degree of flexibility in the regulatory framework exists and there are constant endeavors for introducing a new instruments innovative dealing techniques. This loan can be given for one hour to one or two days . in crores of rupees. Price differentials for assets of similar type will tend to be eliminated by the interplay of demand & supply. i. inter-corporate deposits. which serves a region or an area. 4. swaps etc 2. repos. So this loan is also called call loan in this market. In the top dealer in this market is state cooperative bank.e. Activities in the money market tend to concentrate in some centre. The sub markets have close inter. The borrower or loan taker will repay the loan at call.
while the heavy goods industries (i. investors may focus on less volatile stocks that are well-established. Defensive industries are those that sell goods that people consume. During an economic upturn. Cyclical industries are those whose fortunes change with the rise and fall of the economy. but earnings won’t usually increase proportionately with an upswing in the economic cycle. The companies competing in an expanding industry are more stable and. Thus. during a given economic period. regulated industries such as utilities will be severely hurt by their inability to pass along all price increases. Industry life cycle Most industries go through fairly well-defined life cycle stages that affect the growth of companies in that industry. many experience rapid growth in sales and earnings. the loan taker give the promise to pay certain amount after certain period. possibly at an increasing rate. The survivors continue to grow and prosper. Most industries can either be categorized as defensive or cyclical. the expansion stage. such as technology shares. the survivors from the pioneering stage are identifiable. but so are expected returns if the company succeeds. the types of profit margins. This is because the demand for the products of different industries differs at different times. Investor risk in an unproven company is high. investors may choose growth stocks. as a suitable investment. During a severe inflationary period. 2. For example. This bill can be discounted from any other bank. The industry life cycle has a major effect on the earnings per share and rates of return offered by the industry. Discuss the factors affect industry analysis. The concept of an industry life cycle can apply to industries or product lines within industries.Treasury bills are the bill which is issued by central govt. the ability to recognize the industry life cycle stage is a valuable asset for any investor.B is the UTI & LIC. Therefore. This allows young technological firms to borrow funds to expand and develop their operations. Although a number of companies within a growing industry fail at this stage as a result of strong competitive pressures. Expansion stage: During this stage. fundamental analysis helps investors choose which industry is the most suitable to invest in.e. on the other hand. This bill is sold by RBI on the behalf of Govt. This is 90 loan acceptance bills. For example. Q3. an investor’s investment strategy may be determined depending on how each industry performs during varying economic cycles. During the expansion stage. This bill can also be discounted from bank. but the rate of growth is more moderate than before. Sensitivity to the business cycle Different industries respond differently to recessions and expansions. such as food or pharmaceuticals. loan giver orders that his amount must be given to him or to his ordered person after certain period. while during economic decline. Many observers believe that industries evolve through at least three stages: the pioneering stage. attract considerable investment . the profitability of consumer durables is dependent on the business cycle: they sell more in expansions and less in recessions. steel manufacturers) will be severely affected in a recession. such as banking. industries improve their products and sometimes lower their prices.e. Their performance tends to be relatively steady in bad times. and overall stability of the market. Some industries perform better when the economy is booming. Each of the three stages is described briefly below: 1. As a result. Technology stocks. There is dealing of treasury bills in treasury bill market. and the stabilization stage. The main dealer of T. The profitability of cyclical industries is closely tied to a particular economic cycle. food & beverage firms) will probably be much less affected. rapid growth in demand occurs. III) Commercial bill market a) Promissory Notes: . consumer goods (i. typically boom when the economy is expanding and interest rates are low.In this bill. Answer: Factors affecting industrial analysis are as follows: 1. consequently. competition climate. b) Bill of exchange Under this bill firms can sell the good. Pioneering stage: During this stage. at low borrowing costs. while others do so during times of economic declines. For example. irrespective of the state of the economy. pharmaceuticals generally outperform the rest of the market during economic recessions. 2. because people do not stop using medicine even during difficult economic times. In this bill.
whereas fundamental analysis tries to establish along term values. Sales may still be increasing. The three-part classification of industry life cycle described above helps investors to assess the growth potential of different companies in an industry. further enhancing the attractiveness of these companies to a number of investors. these companies often offer stability in earnings and dividend growth. and costs are stable rather than decreasing through efficiency moves. since the demand for their products and services is growing more rapidly than the economy as a whole. Answer: The efficient market hypothesis (EMH) relates to informational efficiency and the fair pricing function as opposed to operational efficiency. The focus of fundamental analysis is on fundamental factors relating to the economy. Growth is rapid but orderly. Investors interested primarily in capital gains should avoid the maturity stage. 3. but it also poses the greatest risk. On the other hand. Q5. Stabilization stage (or maturity stage): During this stage.capital. Toward the later period of this stage. Industries that have survived the pioneering stage often offer good opportunities. Differences between fundamental and technical analysis. because they have fewer growth prospects. The focus of technical analysis is mainly on internal market data. Companies at this stage may have relatively high dividend payouts. but at a much slower rate than before. Explain the implications of EMH for security analysis and portfolio management. 1. 4. growth begins to be moderate. Q4. 5. the Industry and the firm. 3. Technical analyst looks backward whereas fundamental analysis looks forward as well as backward. This is because investors are more willing to invest in these industries as they have proven their potential and reduced their risk of failure. Products become more standardized and less innovative. Technical analysis mainly seeks to predict short-term price movements. Stagnation may occur for a considerable period of time. Answer: The key difference between technical analysis and fundamental analysis are as follows. which is an appealing characteristic to the investors. It is the expansion stage that is probably of most interest to investors. whereas fundamental analysis appeals primarily to long term investor. The pioneering stage may offer the highest potential returns. Technical analyst thinks that stocks market behavior is 10% logical and 90% psychological whereas fundamental analyst thinks that the stocks market is 90% logical and 10% psychological. The essence of the EMH is that so . the marketplace is full of competitors. particularly price and volume data. Technical analysis appeals mostly to short term traders. Industries at this stage continue to move along but without significant growth. 2. dividends often become payable.
the performance record of professionally managed funds does not support the claims that active managers can consistently beat the market. Thus. Therefore. are of no value in predicting future stock price performance. risk aversion. Investors should follow a passive investment strategy. However. inside information as well. even marginally successful active managers may under perform the market.many people watch the marketplace that few if any individuals can consistently make windfall profits by picking stocks better than the next person. and employment. By and large. goals. it is important to realize that a majority of active managers in a given market will under perform the appropriate benchmark in the long run whether or not the markets are efficient. This is because active management is a zero-sum game in which the only way a participant can profit is for another less fortunate active participant to lose. rather than to beat the market. Optimal portfolios will vary according to factors such as age. Answer: The Capital Asset Pricing Model (CAPM) is a model to explain why capital assets are priced the way they are. and that in accordance with the EMH security prices rapidly adjust to this random arrival of news For Security Analysis: The efficient market debate plays an important role in the decision between active and passive investing. when costs are added. Public information cannot be used to earn abnormal returns (that is. Considerable empirical research supports the semistrong form. The CAPM was based on the supposition that all investors employ Markowitz Portfolio Theory to find the . This would also avoid the costs of analysis and transaction. This does not mean that there is no role for portfolio management. returns above the normal level for that risk class). The weak form sa ys that past prices. However. Returns can be optimized through diversification and asset allocation. it is difficult to beat the market consistently over time. or charts. Rather it maintains that the news arrives randomly. employment. which makes no attempt to beat the market. The strong form of the EMH includes private. If markets are efficient. Q6. tax bracket. The empirical evidence is that investing in passively managed funds such as index fund has outperformed actively managed funds for the last several decades. The random walk theory does not state that security prices move randomly. and risk aversion of the investor. Active managers argue that less efficient markets provide the opportunity for skillful managers to outperform the market. the average investor should buy and hold a suitably diversified-portfolio.There are three forms of the EMH. however. we know that insiders can make illegal profits. For Portfolio management: The portfolio manager must choose a portfolio that is geared toward the time horizon and risk profile of the investor. What is Capital Asset Pricing Model(CAPM)? Write the assumptions of CAPM. tax bracket. The role of the portfolio manager in an efficient market is to tailor a portfolio to those needs. The appropriate mixture of securities may vary according to the age. then what is the role for investment professionals? Those who accept the EMH generally reason that the primary role of a portfolio manager consists of analyzing and investing appropriately based on an investor's tax considerations and risk profile. The semistrong form says that securityprices already fully reflect all relevant publicly available information. the implication is that fundamental analysis is a waste of time and money and as long as market efficiency is maintained. and by minimization of investment costs and taxes.
in conclusion. Investors can borrow or lend unlimited amounts at the risk-free rate.If we combine two or more portfolios on the minimum variance set. the following line states the CAPM as: The CAPM is an equilibrium model that specifies the relationship between risk and required rate of return for assets held in well-diversified portfolios. Here we look at the formula behind the model. The capital asset pricing model (CAPM) helps us to calculate investment risk and what return on investment we should expect. Assumptions of the CAPM Investors all think in terms of a single holding period. the Market Portfolio would be efficient because it is the aggregate of all portfolios. There are no taxes and no transactions costs.portfolios in the efficient set. each of them invests in one of the portfolios in the efficient set. investors’ buying and selling won’t influence stock prices. and what CAPM means to the average investor. Quantities of all assets are given and fixed. Then. the evidence for and against the accuracy of CAPM. All assets are perfectly divisible. So. . Note. All investors are price takers that is. based on individual risk aversion. Recall Property I . we get another portfolio on the minimum variance set. that if this supposition is correct. All investors have identical expectations.
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