UNIT 2 & 3

1) What is Risk and Return?

In investing, risk and return are highly correlated. Increased potential returns on
investment usually go hand-in-hand with increased risk. Risk means how safe your
money will be and return is how fast your money will grow. Different types of
risks include project-specific risk, industry-specific risk, competitive risk,
international risk, and market risk. Return refers to either gains or losses made
from trading a security. The return on an investment is expressed as a percentage
and considered a random variable that takes any value within a given
range. Several factors influence the type of returns that investors can expect from
trading in the markets. Diversification allows investors to reduce the overall risk
associated with their portfolio but may limit potential returns. 
2) Various investment options:
 Direct Equity: Direct equity, commonly referred to as investing in stocks, is
probably the most potent investment vehicle. When you buy a company’s
stock, you buy partial ownership of that company. You directly invest in the
company’s growth and development. You need to have enough time and
possess the market knowledge to benefit from your investment. If not, then
investing in direct equity is as good as speculation. Stocks are offered
publicly listed companies through the recognized stock exchanges and can
be bought by any investor who has Demat account and undergone KYC
verification. Stocks are ideal for long-term investments. 
 Mutual Funds: A mutual fund pools investment from various individual
and institutional investors who have a common investment objective. The
pooled sum is managed by a finance professional called the fund manager,
who invests in securities and assets to generate optimum returns for
investors. Mutual funds are broadly divided into equity, debt and hybrid
funds. Equity mutual funds invest in stocks and equity-related instruments,
while debt mutual funds invest in bonds and papers. Hybrid funds invest
across equity and debt instruments. Mutual funds are flexible investment
vehicles, in which you can begin and stop investing as per your convenience.
 Fixed Deposits: Fixed deposits are an investment option offered by banks
and financial institutions under which you deposit a lump sum for a fixed
period and earn a predetermined rate of interest. Unlike mutual funds and
stocks, fixed deposits offer complete capital protection as well as guaranteed
 returns. However, you compromise on the returns as they remain the same.
Fixed deposits are ideal for the conservative investor. The interest offered by
fixed deposits change as per the economic conditions and are decided by the
banks depending on the RBI’s policy review decisions. 
 Recurring Deposits: A recurring deposit (RD) is another fixed tenure
investment that allows investors to invest a fixed amount every month for a
pre-defined time and earn a fixed rate of interest. Banks and post office
branches offer RDs. The interest rates are defined by the institution offering
it. An RD allows investors to invest a small amount every month to build a
corpus over a defined time period. RDs offer complete capital protection as
well as guaranteed returns. 
 Public Provident Fund: Public Provident Fund (PPF) is a long-term tax-
saving investment vehicle that comes with a lock-in period of 15 years. It is
offered by the Government of India and the sovereign guarantees back your
investments. The interest rate offered by PPF is revised on a quarterly basis
by the Government of India. The corpus withdrawn at the end of the 15
years is entirely tax-free in the investor’s hands. PPF also allows loans and
partial withdrawals after certain conditions have been met. Premature
withdrawals are permitted to meet certain conditions, and you can extend
your investment in a five-year block upon maturity.
 Employee Provident Fund: Employee Provident Fund (EPF) is another
retirement-oriented investment vehicle that helps salaried individuals get a
tax break. EPF deductions are typically a percentage of an employee’s
monthly salary, and the same amount is matched by the employer as well.
Upon maturity, the withdrawn corpus from EPF is also entirely tax-free. EPF
rates are also decided by the Government of India every quarter, and the
sovereign guarantees back your investments in EPF.
 National Pension System: The National Pension System (NPS) is a
relatively new tax-saving investment option. Investors subscribing under the
NPS scheme will mandatorily stay locked-in until their retirement and can
earn higher returns than PPF or EPF. This is because the NPS offers plan
options that invest in equities as well. The maturity corpus from the NPS is
not entirely tax-free, and a part of it has to be used to purchase an annuity
that will give the investor a regular pension. You can withdraw only up to
40% of the entire corpus accumulated as a lump sum, while the remaining
goes towards an annuity plan. 
3) What is Equity investment?
An equity investment is money that is invested in a company by purchasing shares
of that company in the stock market. These shares are typically traded on a stock
exchange. In a company form of organization, the total capital of the business is
divided into smaller units known as equity share. When an investor subscribes to
the equity share of a company, contributes to the total capital of the business and
he becomes a shareholder. For the company, such a contribution is like a liability
on which it needs to give returns to the shareholder. Investors earn returns in equity
investing by way of dividends and capital appreciation.  Along with monetary
benefits, the holders of such shares also get voting rights in critical matters of the
company. Basically, they are treated as owners of the company wherein the
ownership is limited to the extent of the shares held by them.
4) Debt Fund:
Debt funds are funds that invest in instruments such as government securities,
corporate bonds, and commercial papers, certificate of deposits, T-bills and other
such debt and money market instruments. They are called debt because the issuer
of such instruments borrow money from lenders against these instruments. These
instruments comes with different maturities and can generate income periodically
or at maturity. Since most debt instruments are not available for direct purchase by
retail investors, debt mutual funds the ideal way to invest in them. Debt funds
usually provide the benefit of capital appreciation with interest rates fall. There are
various kinds of debt funds that can feature in an investor’s portfolio depending
upon the investment goals and risk appetite.
5) Types of Debt Funds:
 Dynamic Bond Funds: These funds are dynamic funds. The fund manager
keeps changing portfolio composition as per the fluctuating interest rate
regime. Dynamic bond funds have different average maturity periods as
these funds take interest rate calls and invest in instruments of longer and as
well as shorter maturities.
 Income Funds: Income Funds take a call on the interest rates and invest
predominantly in debt securities with extended maturities. This makes them
more stable than dynamic bond funds. The average maturity of income funds
is around five to six years.
 Short-term and Ultra short-term debt funds: These are debt funds that
invest in instruments with shorter maturities, ranging from one year to three
 years. Short-term funds are ideal for conservative investors as these funds
are not affected much by interest rate movements.
 Liquid Funds: Liquid funds invest in debt instruments with a maturity of
not more than 91 days. This makes them almost risk-free. Liquid funds have
rarely seen negative returns. These funds are better alternatives to savings
bank accounts as they provide similar liquidity with higher yields. Many
mutual fund companies offer instant redemption on liquid fund investments
through unique debit cards.
 Gilt Funds: Gilt Funds invest in only government securities – high-rated
securities with very low credit risk. Since the government seldom defaults
on the loan it takes in the form of debt instruments; gilt funds are an ideal
choice for risk-averse fixed-income investors.
 Low Duration Fund – which invests in money market instruments and
debt securities in a manner that the Macaulay duration of the scheme is
between six and twelve months.
 Short Duration Fund – which invests in money market instruments and
debt securities in a manner that the Macaulay duration of the scheme is
between one and three years.
 Medium Duration Fund – which invests in money market instruments
and debt securities in a manner that the Macaulay duration of the scheme
is between three and four years.
 Medium to Long Duration Fund – which invests in money market
instruments and debt securities in a manner that the Macaulay duration of
the scheme is between four and seven years.
 Long Duration Fund – which invests in money market instruments and
debt securities in a manner that the Macaulay duration of the scheme is
more than seven years.
6) Things to consider as an investor of Debt Funds:
 Risk: Debt funds suffer from credit risk and interest rate risk, which makes
them riskier than bank FDs. In credit risk, the fund manager may invest in
low-credit rated securities which have a higher probability of default. In
interest rate risk, the bond prices may fall due to an increase in the interest
rates.
 Return: Even though debt funds are fixed-income, they don’t offer
guaranteed returns. The Net Asset Value (NAV) of a debt fund tends to fall
 with a rise in the overall interest rates in the economy. Hence, they are
suitable for a falling interest rate regime.
 Financial Goals: You can use debt funds as an alternative source of income
to supplement your income from salary. Additionally, budding investors can
invest some portion in debt funds for liquidity. Retirees may invest the bulk
of retirement benefits in a debt fund to receive a pension.
 Cost: Debt fund managers charge a fee to manage your money called an
expense ratio. SEBI has mandated the upper limit of expense ratio to be no
more than 2.25% of the overall assets.
7) Types of Risk associated with Equity investment:
 Economic Risk: The country's economy plays a vital role in performance of
financial instruments. The economic risk includes growth of the country,
inflation, interest rates, balance of payment etc. Any hindrance in any of the
sector will directly impact the financial status of the country. This will have
direct impact on the company performance, indirectly hitting your shares
and your money.
 Exchange rate risk: Most of the company’s revenue is dependent from
outside country especially software and import-export companies who are
mainly dependent on the exchange rate. Any fluctuations in currency will
direct impact the company profit and shares.
 Financial Risk: It is also very important that how the company manages its
finances. If the company is highly leveraged than there are chances of not
meeting liabilities and can go bankrupt.
 Industry level Risk: All industries face cyclical growth. So, one should
examine the previous performance of the industry to know whether the
company is in growth phase of decline phase and invest accordingly. Any
new industry specific news will also hamper the stocks of the company.
 Inflation Risk: Inflation can have a negative effect on a company in
numerous ways be it with respect to wage hikes, magnified corporate profits
owing to an overvaluation of closed inventory that makes the company bear
the brunt of high taxes.
8) Types of risks associated with debt funds:
 Credit Risk: Debt funds lend money to companies, banks, and the
government. Banks and the government have a higher credit profile than
companies and money lent to these is considered safe, there could be an
 exception if a bank or a government goes bankrupt but that is very rare. The
highest risk accrues from private companies, time and again there have been
instances when companies have defaulted in paying back. This probability of
default by a company is called credit risk. As an investor, it is important to
analyze the debt fund portfolio before investing.
 Liquidity risk: Securities in debt funds are traded daily in the debt markets.
It can be considered as equity shares, which have a daily price and are traded
daily. The only difference is that in an equity share you can view the price
whenever you wish to but debt securities are largely traded by institutions
such as companies, government, banks and mutual funds because of which
daily change in prices is not known to an individual. There are certain
securities which would have less liquidity as compared to others or there
could be an economic environment where the liquidity of debt securities
decreases. In both instances, mutual funds are unable to sell these securities
and repay investors. This is known as liquidity risk. Mostly, this risk arises
due to a bad economic environment where the overall liquidity reduces.
 Interest Rate Risk: This is one of the most prevalent risks involved in debt
funds. Interest rates and bond prices are inversely proportional to each other.
When interest rates increase bond prices decrease and vice-versa. In a falling
interest rate environment with bond prices going up, funds with the highest
duration do well. So, if a fund manager buys bonds with a long duration
assuming interest rates will go down, but interest rates go up his bet goes
wrong, and such a fund will deliver low or negative returns. This is known
as an interest rate risk.
9) Gold Investment:
Gold is placed in high regard as an investment. Due to some influencing factors
such as high liquidity and inflation-beating capacity, gold is one of the most
preferred investments in India. Gold investment can be done in many forms like
buying jewelry, coins, bars, gold exchange-traded funds, Gold funds, sovereign
gold bond scheme, etc. For a conventional investor, the most important criterion
is safety, liquidity and profitable returns. You can expect to meet all these
criteria while investing in gold. However, some investors consider gold returns
as extremely volatile but gold proves to be a safe haven in times of uncertainty
for many investors.

10) Characteristics of Investment:

  Return: All investments are characterized by the expectation of a return. In
fact, investments are made with the primary objective of deriving a return.
The return may be received in the form of yield plus capital appreciation.
The difference between the sale price & the purchase price is capital
appreciation. The dividend or interest received from the investment is the
yield. Different types of investments promise different rates of return. The
return from an investment depends upon the nature of investment, the
maturity period & a host of other factors.
 Risk: Risk is inherent in any investment. The risk may relate to loss of
capital, delay in repayment of capital, nonpayment of interest, or variability
of returns. While some investments like government securities & bank
deposits are almost risk less, others are more risky. The risk of an
investment depends on the following factors.

 The longer the maturity period, the longer is the risk.

 The lower the credit worthiness of the borrower, the higher is the risk.

The risk varies with the nature of investment. Investments in ownership

securities like equity shares carry higher risk compared to investments in
debt instrument like debentures & bonds.

 Safety: The safety of an investment implies the certainty of return of capital

without loss of money or time. Safety is another features which an investors
desire for his investments. Every investor expects to get back his capital on
maturity without loss & without delay.
 Liquidity: An investment, which is easily saleable, or marketable without
loss of money & without loss of time is said to possess liquidity. Some
investments like company deposits, bank deposits, P.O. deposits, NSC, NSS
etc. are not marketable. Some investment instrument like preference shares
& debentures are marketable, but there are no buyers in many cases & hence
their liquidity is negligible. Equity shares of companies listed on stock
exchanges are easily marketable through the stock exchanges.
11) What is Investment?
Investment refers to a tool used by people for allocating their funds with the aim of
generating revenue. It is the one through which profit is created out of ideal lying
resources by deploying them into financial assets. Investment simply refers to the
purchase of assets by people not meant for immediate consumption but for future
use that is wealth creation. These assets are purchase with the hope of earning
income or benefitting from their appreciated value that increases over the time. 
Investment assets comprises of stocks, mutual funds, bonds, real estate,
derivatives, jewelry, art work etc. Every investment object mainly serves three
objectives that are safety, income and growth.
12) Features of Investment:
 Safety of Principal: Every investment is subject to fluctuations in its price
which is caused due to changing market conditions. An investment tool is
termed as adequate if it ensures the safety of the principal to investors. It
should possess an ability of redemption as and when required as per the
needs of the person. Proper evaluation of distinct economic and industry
trends should be done before deciding the type of investments. 
 Capital Appreciation: Capital appreciation is an important feature of every
investment tool. Every investment is expected to rise in its value over a
period of time which is a key determinant for making deploying funds in it.
Investors should properly forecast which assets are expected to appreciate in
the future and make timely purchases of them.
 Expectation of Return: The investment provides returns from time to time
to investors which varies as per the market conditions. It is the amount
expected by people for deploying their funds for a particular period of time
in a set of assets. It is the main objective of every investment and every
investor expects a stable and regular return from their investment.
 Marketability: Marketability refers to the ease with which the investment
securities can be purchased and sold or can be transferred in the market. This
feature of investment tools determines their value as assets with better
marketability are preferred more by the people looking for the investment.
 Purchasing Power Stability: Every investor before making an investment
considers the future purchasing power of their funds. In order to maintain the
stability of purchasing power, he ensures that the money value of the
investment should increase in accordance with rising in price levels to avoid
any chance of losing money.
 Tax Benefits: Tax implications on the income provided by investment
programs are seriously taken into consideration by investors. The real return
earned by people is one that is left after paying income tax. While deciding
an investment option, the burden of taxes on its income is an important
 determinant analyzed by investors. He should choose such investment
securities which put less tax burden and maximize its return. 
13) Importance of Investment:
 Generates Income: Investment serves as an efficient tool for providing
periodic and regular income to people. Earning return in the form of interest
and dividends is one of the important objectives of the investment process.
Investors analyses and invest in those that provide a better rate of return at
lower risk.   
 Wealth Creation: Creation of wealth is another important role played by an
investment activity. It helps investors in wealth creation through
appreciation of their capital over the time. Investment helps in accumulating
large funds by selling assets at a much higher price than the initial purchase
price. 
 Economic Development: Investment activities have an efficient role in the
overall development of the economy. It helps in efficient mobilization of
ideal lying resources of peoples into productive means. Investment serves as
a mean for bringing together those who have sufficient funds and one who
are in need of funds. It enables in capital creation and leads to economic
development of the country. 
 Meet Financial Goals: Investment activities support peoples in attaining
their long term financial goals. Individuals can easily grow their funds by
investing their money in long term assets. It serves mainly the purpose of
providing financial stability, growing wealth and keeping people on track at
their retirement by providing them with large funds.
14) Advantage and Disadvantage of Return on Investment:
Advantage:
 Achieving Goal Congruence: ROI ensures goal congruence between the
different divisions and the firm. Any increase in divisional ROI will bring
improvement in overall ROI of the entire organization.
 Comparative Analysis: ROI helps in making comparison between different
business units in terms of profitability and asset utilization. It may be used
for inter firm comparisons, provided that the firms whose results are being
compared are of comparable size and of the same industry. ROI a good
measure because it can be easily compared with the related cost of capital to
decide the selection of investment opportunities.
  Performance of Investment Division: ROI is significant in measuring the
performance of investment division which focuses on earning maximum
profit and making appropriate decisions regarding acquisition and disposal
of capital assets. Performance of investment centre manager can also be
assessed advantageously with ROI.
 ROI as Indicator of Other Performance Ingredients: ROI is considered
the single most important measure of performance of an investment division
and it includes other performance aspects of a business unit. A better ROI
means that an investment centre has satisfactory results in other fields of
performance such as cost management, effective asset utilization, selling
price strategy, marketing and promotional strategy etc.
Disadvantage:
 Satisfactory definition of profit and investment are difficult to find. Profit
has many concepts such as profit before interest and tax, profit after interest
and tax, controllable profit, profit after deducting all allocated fixed costs.
Similarly, the term investment may have many connotations such as gross
book value, net book value, historical cost of assets, and current cost of
assets, assets including or excluding intangible assets.
 While comparing ROI of different companies, it is necessary that the
companies use similar accounting policies and methods in respect of
valuation of stocks, valuation of fixed assets, apportionment of overheads,
treatment of research and development expenditure, etc.
 ROI may influence a divisional manager to select only investments with
high rates of. Other investments that would reduce the division’s ROI but
could increase the value of the business may be rejected by the divisional
manager. It is likely that another division may invest the available funds in a
project that might improve its existing ROI but which will not contribute as
much to the enterprise as a whole.
15) 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 analyzed 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.
16) Investment vs Speculation:

 Investment refers to the purchase of an asset with the hope of getting returns.
The term speculation denotes an act of conducting a risky financial
transaction, in the hope of substantial profit.
 In investment, the decisions are taken on the basis of fundamental analysis,
i.e. performance of the company. On the other hand, in speculation decisions
are based on hearsay, technical charts, and market psychology.
 Investments are held for at least one year. Hence, it has a longer time
horizon than speculation, where speculators hold assets for short term only.
 The quantity of risk is moderate in investment and high in case of
speculation.
 The investors, expect profit from the change in the value of the asset. As
opposed to speculators who expect profit from the change in the prices, due
to demand and supply forces.
 An investor expects the modest rate of return on the investment. On the
contrary, a speculator expects higher profits from the speculation in
exchange for the risk borne by him.
 The investor uses his own funds for investment purposes. Conversely,
speculator uses borrowed capital for speculation.
 In speculation, the stability of income is absent it is uncertain and erratic
which is not in the case of investment.
 The psychological attitude of investors is conservative and cautious. In
contrast, speculators are daring and careless.

17) What is Gambling?

Gambling is the act of betting your money on some kind of possibility or event.
Since the event’s outcome is subject to chance and is usually uncertain, gambling
becomes less about learned moves or skill application and more about odds. Also,
the risk quotient increases because once the event is over, winning or losing is
absolute and finalized once the event is over. There are no partial losses or wins.
Gamblers also try to study their opponents or the game before putting in their bets
to better understand the odds of a favorable return.
18) Difference between investment and gambling:
  Time Horizon: A vast difference between investing and gambling is the
time horizon. Gambling is a limited-period, event-bound activity. The
moment the event is over and its outcome is defined, the act of gambling is
concluded. By comparison, investments have a much longer time horizon.
So you have the option to stay invested in a particular stock or asset for
years or even decades. Short-term investments and intra-day trades are also
possible.
 Risk Minimization: With both investing and gambling, you are supposed to
look out for profit maximization and risk minimization. While you have the
reins to control with investing, it’s not the case with gambling. You can
always define a stop-loss strategy and sell off an investment that is not
giving you expected returns. On the other hand, when you gamble in a
casino and bet against the house, your expected returns can be anywhere
between -0.5% to -5%.
 Need for Skill: Even though the outcome depends largely on chance,
professional gambling requires experience and skill. To increase your
chances of winning, you have to study your opponents and the odds long
before making a bet. Investing doesn’t depend on any particular skill set.
Anyone can learn to be a profitable investor. Successful investment in the
stock market requires knowledge and study of the companies and financial
instruments.
 Availability of information: Another thing that sets investing apart from
gambling is the availability of information to make an informed decision.
All the information that an investor seeks about a stock or asset is available
in the public domain. You can find out about a stock’s historical
performance and profitability projections by going through the company’s
annual report. But information is rare to come by when it comes to
gambling. Even though you can know the pedigree of the horse you are
betting on or the opponents you are playing poker with, the credibility and
reliability of the information remain questionable.
 Diversification: When investing, diversification is an accepted strategy to
reduce risk and maximize returns. You can invest in different asset classes
and diverse opportunities within the same asset category at the same time. If
one investment doesn’t perform well, the others can cover its losses. But
when gambling, diversification doesn’t protect you in any way. If you spread
your risk capital across multiple gambles, you reduce your reward potential
rather than mitigating your risk.

19) What is portfolio management?

Portfolio management is the process of managing individuals’ investments so
that they maximize their earnings within a given time horizon. Such practices
ensure that the capital invested by individuals is not exposed to too much market
risk. The entire process is based on the ability to make sound decisions.
Typically, such a decision relates to achieving a profitable investment mix,
allocating assets as per risk and financial goals and diversifying resources to
combat capital erosion. Portfolio management serves as a SWOT analysis of
different investment avenues with investors’ goals against their risk appetite. In
turn, it helps to generate substantial earnings and protect such earnings against
risks.

20) Objectives of portfolio management:

 Security of Principal Investment: Investment safety or minimization of

risks is one of the most important objectives of portfolio management.
Portfolio management not only involves keeping the investment intact but
also contributes towards the growth of its purchasing power over the period.
The motive of a financial portfolio management is to ensure that the
investment is absolutely safe. Other factors such as income, growth, etc., are
considered only after the safety of investment is ensured.
 Consistency of Returns: Portfolio management also ensures to provide the
stability of returns by reinvesting the same earned returns in profitable and
good portfolios. The portfolio helps to yield steady returns. The earned
returns should compensate the opportunity cost of the funds invested.
 Capital Growth: Portfolio management guarantees the growth of capital by
reinvesting in growth securities or by the purchase of the growth securities.
A portfolio shall appreciate in value, in order to safeguard the investor from
any erosion in purchasing power due to inflation and other economic factors.
A portfolio must consist of those investments, which tend to appreciate in
real value after adjusting for inflation.
 Marketability: Portfolio management ensures the flexibility to the
investment portfolio. A portfolio consists of such investment, which can be
marketed and traded. Suppose, if your portfolio contains too many unlisted
 or inactive shares, then there would be problems to do trading like switching
from one investment to another. It is always recommended to invest only in
those shares and securities which are listed on major stock exchanges, and
also, which are actively traded.
 Liquidity: Portfolio management is planned in such a way that it facilitates
to take maximum advantage of various good opportunities upcoming in the
market. The portfolio should always ensure that there are enough funds
available at short notice to take care of the investor’s liquidity requirements.
 Diversification of Portfolio: Portfolio management is purposely designed to
reduce the risk of loss of capital and/or income by investing in different
types of securities available in a wide range of industries. The investors shall
be aware of the fact that there is no such thing as a zero risk investment.
More over relatively low risk investment give correspondingly a lower
return to their financial portfolio.
 Favorable Tax Status: Portfolio management is planned in such a way to
increase the effective yield an investor gets from his surplus invested funds.
By minimizing the tax burden, yield can be effectively improved. A good
portfolio should give a favorable tax shelter to the investors. The portfolio
should be evaluated after considering income tax, capital gains tax, and other
taxes.

21) Types of portfolio management:

 Active Portfolio Management: When the portfolio managers actively

participate in the trading of securities with a view to earning a maximum
return to the investor, it is called active portfolio management.
 Passive Portfolio Management: When the portfolio managers are
concerned with a fixed portfolio, which is created in alignment with the
present market trends, is called passive portfolio management.
 Discretionary Portfolio Management: The Portfolio Management in which
the investor places the fund with the manager, and authorizes him to invest
them as per his discretion, on the investor’s behalf. The portfolio manager
looks after all the investment needs, documentation, etc.
 Non-Discretionary Portfolio Management: Non-discretionary portfolio
management is one in which the portfolio managers gives advice to the
investor or client, who can accept or reject it.
22) Process of portfolio management:

 Security Analysis: It is the first stage of portfolio creation process, which

involves assessing the risk and return factors of individual securities, along
with their correlation.
 Portfolio Analysis: After determining the securities for investment and the
risk involved, a number of portfolios can be created out of them, which are
called as feasible portfolios.
 Portfolio Selection: Out of all the feasible portfolios, the optimal portfolio,
that matches the risk appetite, is selected.
 Portfolio Revision: Once the optimal portfolio is selected, the portfolio
manager, keeps a close watch on the portfolio, to make sure that it remains
optimal in the coming time, in order to earn good returns.
 Portfolio Evaluation: In this phase, the performance of the portfolio is
assessed over the stipulated period, concerning the quantitative measurement
of the return obtained and risk involved in the portfolio, for the whole term
of the investment.
23) Security Analysis:

Security analysis is closely linked with portfolio management. The main objective
of Security analysis is to appraise the intrinsic value of security. There are two
basic approaches to security analysis. They are

 Fundamental Approach: The Fundamental approach suggests that every

Stock has an intrinsic value which should be equal to the present value of the
future Stream of income from that stock discounted at an appropriate risk
related rate of Interest. Estimate of real worth of a stock is made by
considering the earnings potential of firm which depends upon investment
environment and factors relating to specific industry, competitiveness,
quality of management. Operational efficiency, profitability, capital
structure and dividend policy. Thus, security analysis is done to evaluate the
current market value of particular security with the intrinsic or theoretical
value. Decisions about buying and selling an individual security depend
upon the conferred relative value. Since this approach is based on relevant
facts, it gives true estimate of the value of a security and it is widely use in
estimation of security prices.
  Technical Approach: The other technique of security analysis is known as
Technical Approach. The basic assumption of this approach is that the price
of a stock depends on supply and demand in the market place and has little
relationship with its intrinsic value. All financial date and market
information of a given security is reflected in the market price of a security.
Therefore, an attempt is made through charts to identify price movement
patterns which predict future movement of the security.

24) What is Portfolio Analysis?

Portfolio analysis is the process of studying an investment portfolio to determine

its appropriateness for a given investor's needs, preferences, and resources. It also
evaluates the probability of meeting the goals and objectives of a given investment
mandate, particularly on a risk-adjusted basis and in light of historical asset class
performance, inflation, and other factors.

25) What is portfolio construction?

Portfolio Construction is all about investing in a range of funds that work together
to create an investment solution for investors. Building a portfolio involves
understanding the way various types of investments work, and combining them to
address your personal investment objectives and factors such as attitude to risk the
investment and the expected life of the investment.
When building an investment portfolio there are two very important
considerations.
 The first is asset allocation, which is concerned with how an investment is
spread across different asset types and regions.
 The second is fund selection, which is concerned with the choice of fund
managers and funds to represent each of the chosen asset classes and sectors.
Four steps to creating portfolio:

 Create your risk profile – Measure your perceived level of risk for an
investment.
 Asset Allocation – Determining the right combination of assets – the most
important part of the portfolio construction process.
 Fine tune your portfolio – Choose to invest in and/or review your existing
portfolio to fit in with the asset allocation most suitable to you, potentially
reducing your risk and increasing your returns.
  Review your portfolio regularly – Once you have constructed your
portfolio, it is important to continue to review your asset allocation on a
regular basis. Investors failing to do this, may find they become overweight
in a particular asset class, potentially increasing the overall risk of their
portfolio.
26) Portfolio Revision and Selection:

Portfolio Selection: Portfolio analysis provides the input for the next phase in
portfolio management, which is portfolio selection. The proper goal of portfolio
construction is to generate a portfolio that provides the highest returns at a given
level of risk. A portfolio having this characteristic is known as an efficient
portfolio. The inputs from portfolio analysis can be used to identify the set of
efficient portfolios. From this set of efficient portfolios the optimum portfolio has
to be selected for investment.

Portfolio Revision: Once the portfolio is constructed, it undergoes changes due to

changes in market prices and reassessment of companies. Portfolio revision means
alteration of the composition of debt/equity instruments, shifting from the one
industry to another industry, changing from one company to another company.
Any portfolio requires monitoring and revision. Portfolios activities will depend on
daily basis keeping in view the market opportunities. The objective of portfolio
revision is the same as the objective of portfolio selection, i.e. maximizing the
return for a given level of risk or minimizing the risk for a given level of return.
The ultimate aim of portfolio revision is maximization of returns and minimizing
of risk.

27) Portfolio Evaluation:

Portfolio evaluating refers to the evaluation of the performance of the investment

portfolio. It is essentially the process of comparing the return earned on a portfolio
with the return earned on one or more other portfolio or on a benchmark
portfolio. Portfolio performance evaluation essentially comprises of two functions,
performance measurement and performance evaluation. Performance measurement
is an accounting function which measures the return earned on a portfolio during
the holding period or investment period. Performance evaluation, on the other
hand, address such issues as whether the performance was superior or inferior,
whether the performance was due to skill or luck etc. Investment analysts
continuously monitor and evaluate the result of the portfolio performance. The
expert portfolio constructor shall show superior performance over the market and
other factors. The performance also depends upon the timing of investments and
superior investment analysts capabilities for selection. The evolution of portfolio
always followed by revision and reconstruction. The investor will have to assess
the extent to which the objectives are achieved. For evaluation of portfolio, the
investor shall keep in mind the secured average returns, average or below average
as compared to the market situation.

28) What is Ex-ante and Ex-post?

Ex-ante: Ex-ante means “before the event,” and it is the estimated return that
investors can expect to earn from an investment or the earnings that a company can
expect to earn at the end of a specific period. In simple terms, it is the prediction of
an event before it actually happens, and the actual outcome is uncertain. By
making the prediction of the outcome, the obtained ex-ante value can then be
compared to the actual performance when it happens.

Ex-post: Ex-post means “after the event,” and it is the opposite of the Latin word
“ex-ante.” Investment companies use the concept to forecast the expected returns
of a security based on the actual or historical returns earned by the security. Unlike
ex-ante, which is based on estimated returns, ex-post represents the actual results
attained by the company, which is the return earned by the company’s investors.
Investors can use the ex-post data to get the actual performance of a security,
without including any forecasts or projections that may be affected by market
shocks. The ex-post value of a security can be obtained by deducting the price paid
by investors from the current market price of the security.

29) Risks involved in real estate investment:

 Bad locations: In real estate investing, location is everything. Expert real
estate investors agree that when you’re buying any type of investment
properties, the location should always be the top factor to take into
consideration. Location determines the supply and demand.  A
certain location is a good choice for real estate investing due to lower prices.
However, these locations can sometimes have too many investment
properties available and yet not have a growing population or a good job
market. Thus, investing in these locations will cause real estate investors
great risks.
 Negative Cash Flow: In real estate investing, the cash flow of investment
properties is the amount of profit that the property investor earns after
paying off all expenses, taxes, and mortgage payments. The next risk
associated with real estate investing is the possibility of generating a
 negative cash flow instead of a positive one. This means that expenses,
taxes, and mortgage payments are all higher than the rental income, which
results in losing money. The risk of negative cash flow occurs when the
property investor buys investment properties without conducting a real estate
market analysis first. Thus, the best way to avoid this risk is by accurately
calculating your income and expenses before buying an investment property,
and ensure that the rental property is located in a prime location that
yields positive cash flow to guarantee a high return on investment.
 Vacancy Risks: In real estate investing, there is the possibility of high
vacancy, which is a major risk to real estate investors’ rental income as it
can yield negative cash flow. Moreover, since tenants are the source of
rental income in real estate investing, vacancy is a huge risk for real estate
investors who rely on rental income to pay off their mortgage, insurance,
property taxes, and other expenses. To avoid the risk of high vacancy, real
estate investors should purchase investment properties in a good location
with high demand. 
 Lack of Liquidity: Liquidity is the ability to access the money you have
within an investment. One risk of real estate investing is that investment
properties are illiquid, meaning you can’t easily convert them into cash.
Selling a property is neither a quick nor a simple process, and selling quickly
or under pressure will most likely result in taking a loss on your investment.
This lack of liquidity forces real estate investors to hold their investments for
longer than other types of investments, which is risky for those who might
need access to cash quickly if necessary.
 Depreciation: In real estate investing, depreciation is the opposite of
appreciation. In general, real estate properties are expected to increase in
value over the years. However, not all properties are guaranteed to grow in
value. Therefore, a major risk of real estate investing is investing in a rental
property whose value drops in the future, meaning the property investor will
end up losing money.
30) What are Derivatives?
Derivatives are financial contracts whose value is dependent on an underlying asset
or group of assets. The commonly used assets are stocks, bonds, currencies,
commodities and market indices. The value of the underlying assets keeps
changing according to market conditions. The basic principle behind entering into
derivative contracts is to earn profits by speculating on the value of the underlying
asset in future.
31) Types of Derivative Contract:
 Options: Options are derivative contracts that give the buyer a right to
buy/sell the underlying asset at the specified price during a certain period of
time. The buyer is not under any obligation to exercise the option. The
option seller is known as the option writer. The specified price is known as
the strike price. You can exercise American options at any time before the
expiry of the option period. European options, however, can be exercised
only on the date of the expiration date.
 Futures: Futures are standardized contracts that allow the holder to buy/sell
the asset at an agreed price at the specified date. The parties to the futures
contract are under an obligation to perform the contract. These contracts are
traded on the stock exchange. The value of future contracts is marked to
market every day. It means that the contract value is adjusted according to
market movements till the expiration date.
 Forwards: Forwards are like futures contracts wherein the holder is under
an obligation to perform the contract. But forwards are unstandardized and
not traded on stock exchanges. These are available over-the-counter and are
not marked-to-market. These can be customized to suit the requirements of
the parties to the contract.
 Swaps: Swaps are derivative contracts wherein two parties exchange their
financial obligations. The cash flows are based on a notional principal
amount agreed between both parties without exchange of principal. The
amount of cash flows is based on a rate of interest. One cash flow is
generally fixed and the other changes on the basis of a benchmark interest
rate. Interest rate swaps are the most commonly used category. Swaps are
not traded on stock exchanges and are over-the-counter contracts between
businesses or financial institutions.
32) Advantages and Disadvantages of Derivatives:
Advantage:
 Hedging risk exposure: Since the value of the derivatives is linked to the
value of the underlying asset, the contracts are primarily used for hedging
risks. For example, an investor may purchase a derivative contract whose
value moves in the opposite direction to the value of an asset the investor
 owns. In this way, profits in the derivative contract may offset losses in the
underlying asset.
 Underlying asset price determination: Derivatives are frequently used to
determine the price of the underlying asset. For example, the spot prices of
the futures can serve as an approximation of a commodity price. 
 Market efficiency: It is considered that derivatives increase the efficiency
of financial markets. By using derivative contracts, one can replicate the
payoff of the assets. Therefore, the prices of the underlying asset and the
associated derivative tend to be in equilibrium to
avoid arbitrage opportunities.
 Access to unavailable assets or markets: Derivatives can help
organizations get access to otherwise unavailable assets or markets. By
employing interest rate swaps, a company may obtain a more favorable
interest rate relative to interest rates available from direct borrowing.
Disadvantage:
 High risk: The high volatility of derivatives exposes them to potentially
huge losses. The sophisticated design of the contracts makes the valuation
extremely complicated or even impossible. Thus, they bear a high inherent
risk.
 Speculative features: Derivatives are widely regarded as a tool of
speculation. Due to the extremely risky nature of derivatives and their
unpredictable behavior, unreasonable speculation may lead to huge losses.
 Counter-party risk: Although derivatives traded on the exchanges
generally go through a thorough due diligence process, some of the contracts
traded over-the-counter do not include a benchmark for due diligence. Thus,
there is a possibility of counter-party default.
33) What is Mutual Fund?
A mutual fund is a type of financial vehicle made up of a pool of money collected
from many investors to invest in securities like stocks, bonds, money market
instruments, and other assets. Mutual funds are operated by professional money
managers, who allocate the fund's assets and attempt to produce capital gains or
income for the fund's investors. A mutual fund's portfolio is structured and
maintained to match the investment objectives stated in its prospectus. Mutual
funds give small or individual investors access to professionally managed
portfolios of equities, bonds, and other securities. Each shareholder, therefore,
participates proportionally in the gains or losses of the fund. Mutual funds invest in
a vast number of securities, and performance is usually tracked as the change in the
total market cap of the fund derived by the aggregating performance of the
underlying investments.
34) Risks associated with Mutual Funds:
 Market Risk: Market risk is a risk which may result in losses for any
investor due to the poor performance of the market. There are a lot of factors
that affect the market. A few examples are a natural disaster, inflation,
recession, political unrest, fluctuation of interest rates, and so on. Market
risk is also known as systematic risk.
 Concentration Risk: Concentration generally means focusing on just one
thing. Concentrating a considerable amount of a person’s investment in one
particular scheme is never a good option. Profits will be huge if lucky, but
the losses will be pronounced at times. The best way to minimize this risk is
by diversifying your portfolio. Concentrating and investing heavily in one
sector is also risky. The more diverse the portfolio, the lesser the risk is. 
 Interest Rate Risk: Interest rate changes depending on the credit available
with lenders and the demand from borrowers. They are inversely related to
each other. Increase in the interest rates during the investment period may
result in a reduction of the price of securities.
 Liquidity Risk: Liquidity risk refers to the difficulty to redeem an
investment without incurring a loss in the value of the instrument. It can also
occur when a seller is unable to find a buyer for the security.
35) What are hedge funds?

A hedge fund is a form of alternative investment that pools capital from individual

or institutional investors to invest in varied assets, often relying on complex
techniques to build its portfolio and manage risk. Hedge funds can invest in
anything from real estate to currencies and other alternative assets; this is one of
many ways in which hedge funds differ from mutual funds, which normally only
invest in stocks or bonds. The aim of all hedge funds is to maximise investor
returns and eliminate risk, regardless of whether the market is going up or down.

36) What is an ETF?

An exchange traded fund (ETF) is a type of security that tracks an index, sector,
commodity, or other asset, but which can be purchased or sold on a stock exchange
the same way a regular stock can. An ETF can be structured to track anything from
the price of an individual commodity to a large and diverse collection of securities.
ETFs can even be structured to track specific investment strategies. ETFs can
contain many types of investments, including stocks, commodities, bonds, or a
mixture of investment types. An exchange traded fund is a marketable security,
meaning it has an associated price that allows it to be easily bought and sold.