Concept of Investment

‡ Investing in various types of assets is an interesting activity that attracts people from all walks of life irrespective of their occupation, economic status, education and family background. ‡ When a person has more money than he requires for current consumption, he would be coined as a potential investor. The investor who is having extra cash could invest it in securities or in any other assets like or gold or real estate or could simply deposit it in his bank account ‡ The companies that have extra income may like to invest their money in the extension of the existing firm or undertake new venture. All of these activities in a broader sense mean investment.

How do you Define Investment?
‡ We can define investment as the process of, ³sacrificing something now for the prospect of gaining something later´. So, the definition implies that we have three dimensions to an investment-time, today¶s sacrifice and prospective gain.

How is Investment Different from Speculation?
‡ We know that investment means sacrificing or committing some money today in anticipation of a financial return later. The investor indulges in a bit of speculation involved in all investment decisions. It does not follow through that all investments are all speculative by nature.

How is Investment Different from Speculation?
‡ Genuine investments are carefully thought out decisions. They involve only calculated risks. The expected return is consistent with the underlying risk of the investment. A genuine investor is risk averse and usually has a long-term prospective in mind. The government officer¶s investment in the units of UTI , the college professor¶s Reliance stockholding , the lady clerk¶s Post Office Savings Deposit, all may be regarded as genuine investments. Each person seems to have made carefully thought out decision and each has only calculated risk.

a speculator is relatively less risk averse and has a short-term perspective for investment.How is Investment Different from Speculation? ‡ Speculative investments on the other hand are not carefully thought out decisions. hot tips. The intention is to profit from short-term market fluctuations. The risk assumed is disproportionate to the return expected from speculation. In other words. inside dopes and often simply on hunches. They are based on rumours. .

. ‡ Unlike investors and speculator. ‡ In gambling the outcome is largely a matter of luck. no rational economic reason can be given for it.Gambling ‡ Gambling is defined in webster¶s dictionary as µ An act of betting on uncertain outcome. the gamblers are risk lovers in the sense that the risk they assume is quite disproportionate to the expected reward.

Does the Investment Suffer from any Constraints! ‡ ‡ ‡ ‡ ‡ ‡ Liquidity Age Need for regular income Risk Tolerance Tax liability Time Horizon .

bonds.Classification of various investment alternatives. These include savings accounts. ‡ Type 2 investment have the highest investment risk with the highest return. and government agency securities. post office certificates of deposit. . This include investment in stock market directly or indirectly. ‡ Type 1 investments have the lowest investment risk with relatively low returns. treasury securities.

Investment Objectives ‡ ‡ ‡ ‡ Near-term High Priority Goals Long-term High Priority goals Low Priority Goals Entrepreneurial or Money Making Goals .

Near-term High Priority Goals ‡ These are goals which have a high emotional priority to the investor and he wishes to achieve these goals within a few years. As a result investment vehicles for these goals tends to be in the form of fixed-income instruments with maturity dates correspondence with the goal dates. . especially the one with moderate means will not go for any other form of investment which involves more risk especially where his goal is just in sight. investor. Because of the high emotional importance these goals have.

Financial independence at the time of retirement or starting a fund for higher education of a three year old child.Long-term High Priority goals ‡ For most people. . Eg. Preferred by the people of moderate means. Because of long term nature of such goals there is not a tendency to adopt more aggressive approach. this goal is an indication of their need at a point some years ahead in the future.

Low priority Goals ‡ This goals are much lower down in the scale of priority and are not particularly painful if not achieved. investors often invest in speculative kinds of investment either for fun or just to try out some particular aspect of the investment process. . As a result. this could range from a world tour to donating funds for charity. For people with moderate to substantial wealth.

. These investor usually put all the spare money they have into stocks preferably of the company in which they are working/owing and leave it there until it reaches some level which either the individual believes is enough or is scared of losing what has been built up over the years.Entrepreneurial or Money Making Goals ‡ This goal pertain to individual who want to maximize wealth not satisfied by the conventional saving and investment approach.

Investment Risk ‡ Systematic Risk ‡ Unsystematic Risk .

.Unsystematic Risk ‡ Is firm-specific risk that is unique to a security and hence can be eliminated by forming diversified portfolios. the risk that is firm-specific and can be diversified through holding a portfolio of stocks. In other words. ‡ This is also called business risk. ‡ Risk that is uncorrelated to the overall market risk.

Measured by the security's beta coefficient.Systematic Risk ‡ he portion of an investment's risk that is coincident with the market and thus cannot be eliminated by diversification. ‡ This type of risk affects a broad range of securities. . Also called market risk.

Risk Classification ‡ ‡ ‡ ‡ ‡ ‡ ‡ ‡ ‡ Interest Risk Reinvestment Risk Default Risk Inflation Rate Risk Business risk Financial risk Liquidity risk Exchange rate risk Country risk .

The longer the maturity date of that security.Interest Risk ‡ The possibility of a reduction in the value of a security. ‡ Investment risk associated with the possibility that there is a rise in the interest rates after a fixed income security has been purchased resulting in a decline in that security's price. ‡ Risk that an interest-earning asset. such as a bank loan. will decline in value as interest rates change. especially a bond. resulting from a rise in interest rates. Longer maturity. the greater the exposure of the security's price to interest rate fluctuations. fixed rate loans are more sensitive to price risk from changes in rates than variable rate loans. .

. the investors cannot reinvest at the same interest rates at which the earlier income were reinvested.Reinvestment Risk ‡ A falling interest rate periods.

Default Risk ‡ It is the risk which arises when the issuer is not able to satisfy the terms and conditions of the obligation with respect to the timely payment of interest and repayment of the amount borrowed. default risk is higher and the value of the bond will decline. ‡ Default risk has a significant effect on the value of a bond: if a borrower's ability to repay debt is impaired. .

. and does so whether the money is invested or not. Inflation causes money to decrease in value at some rate.Inflation Rate Risk ‡ The possibility that the value of assets or income will decrease as inflation shrinks the purchasing power of a currency.

Business Risk ‡ Business risk arises due to: ± Uncertainty of income flows caused by the nature of a firm¶s business ± Sales volatility and operating leverage determine the level of business risk. .

Financial Risk ‡ Financial risk arises due to: ± Uncertainty caused by the use of debt financing. ± The use of debt increases uncertainty of stockholder income and causes an increase in the stock¶s risk premium. . ± Borrowing requires fixed payments which must be paid ahead of payments to stockholders.

Liquidity Risk ‡ Liquidity risk arises due to the uncertainty introduced by the secondary market for an investment. ± How long will it take to convert an investment into cash? ± How certain is the price that will be received? .

.Exchange Rate Risk ‡ Exchange rate risk arises due to the uncertainty introduced by acquiring securities denominated in a currency different from that of the investor. ‡ Changes in exchange rates affect the investors return when converting an investment back into the ³home´ currency.

Country Risk ‡ Country risk (also called political risk) refers to the uncertainty of returns caused by the possibility of a major change in the political or economic environment in a country. ‡ Individuals who invest in countries that have unstable political-economic systems must include a country risk-premium when determining their required rate of return .

or at the end of a specified time period. The investment company charges fees for its services. . either periodically.Mutual Funds ‡ Investment can be done in different forms. referred to as management fees. The returns from these investments are passed on to the investors. An investor can either invest directly in securities. or can invest through an investment company. Mutual Fund is an investment company is a financial intermediary that collects money from investors and invests in various securities on their behalf.

The flow chart below describes broadly the working of a Mutual Fund .

Advantages of Mutual Funds ‡ Reduced Risk ‡ Diversified Investment ‡ Tax Benefits .

‡ Asset Management Company (AMC) ‡ Custodian . ‡ Board of Trustees: The fund is governed either by a Board of Trustees. or The Directors Of A Trustees Company. The Board of Trustee is responsible for protecting the investors¶ interests.Mutual Fund Industry has a Four ²tier structure ‡ Sponsor: The Sponsor of a fund is the entity that sets up the mutual fund. The sponsor selects them.

‡ Marketing the scheme . ‡ Seeking SEBI¶s approval and authorizations to these schemes.Mutual Fund Trust ‡ Planning and formulation of mutual fund schemes.

Role of AMCs ‡ Taking investment decision and making investments of funds through broker in the secondary market or directly in the primary market or money market instruments ‡ Realize fund position by taking accounts of all receivable and realizations ‡ Maintaining proper accounting and information for pricing the units .

Role of Custodian ‡ ‡ ‡ ‡ Safe Custody Trade Settlement Corporate Action Transfer Agent .

Organizational Set Up of Mutual Fund .

‡ It changes almost on a daily basis as the market prices of individual securities in its portfolio fluctuate ‡ As the intrinsic value of the security represent the fair value of the security. the NAV represents the fair value of a unit in a mutual fund .Net Asset Value(NAV) ‡ It is the actual value of the investments made by the mutual fund for each unit issued by it.

Functional Classification of Mutual Funds ‡ Open Ended Mutual Fund ‡ Close Ended Mutual Fund .

Open Ended Mutual Fund ‡ Units of mutual funds can be bought/sold throughout the life of the mutual fund scheme ‡ Units of mutual fund are bought/sold at NAV .

and can not sell more units after its initial offering ‡ Units of closed ended mutual funds are not redeemable at their NAV .Closed Ended Mutual Funds ‡ Closed ended mutual fund investment company has a definite target amount for the funds.

Portfolio Classification of Mutual Funds ‡ ‡ ‡ ‡ ‡ Bond Funds Stock Funds Money Market Funds Growth Funds Balanced Funds .

Geographical Classification of Mutual Funds ‡ Domestic Mutual Funds ‡ Offshore Mutual Funds .

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