Investment Analysis and Portfolio Management

• Faculty :

• Evaluation
• External Evaluation: 50 marks
• Internal Evaluation: 50 marks

1
 Module I :
NATURE & SCOPE OF INVESTMENT MANAGEMENT
• Definition of Investment:

According to F. Amling, “Investment can be defined as the purchase by an individual or institutional investor of a financial or real asset that produces a
return proportional to risk assumed over some future investment period.

• Elements of Investments:

a) Return

b) Risk

c) Time

• Commitment Investment: refers to money committed to satisfy personal desires, with no monetary rate of return. Example: Purchase of car.

• Financial Investment: refers to investment in various assets, such as stocks, bonds, real estate, etc., with a view to earn returns.

• Why Investments are important:

a) Increase in life expectancy b) Interest rates c) Increasing rates of taxation d) Beat Inflation e) Investments channels (therefore
Investment Analysis)
• Investment Principles a) Safety b) Liquidity c) Profit d) Transferability e) Tangible
 Investment, Speculation and Gambling

• Pure (genuine) investment – Financial investment is like the exchange

of financial claims, i.e. buying of shares, debentures, purchasing
insurance policies, investing in post office, etc.

• A pure investment is carefully thought of, well-planned and based on

fundamentals for a long time period with assumed low risk.

• Speculation: starts where investment ends. Is an act of investing

money on the basis of market wide information. Such information
includes trends of share prices or traded volume of shares, etc.
• While speculating investor takes more risk as compared to pure
investment activity and accordingly expects higher returns too.
• Speculation is done by adopting jobbing, derivatives ,etc.

• Gambling: In this the investor is always ready to take high degree of

risk and he creates a situation leading to risk and then assumes the risk
so created. Expects high returns in a very short time.
 Financial Markets – Stakeholders
• Investors – Individuals, Business, government
• Issuers of Financial assets – Government, Corporates, etc.
• Financial Intermediaries – Banks, Insurance companies, mutual funds, financing
companies, etc.
• Investors:
• Individual Investors
– Retail Individual investors – who invest not more than INR 200,000 in a single transaction
– High Net Worth Individuals (HNIs) – who invest more than INR 200,000 in a single transaction
• Institutional Investors
– Financial Institutions, Banks, Insurance Companies, Mutual Funds and FIIs.
– FII is an entity established or incorporated outside India that proposes to make Investments in
India

Issuers - issue Investors - expect

different kinds of Intermediaries returns with minimum
securities risk
 Introduction to Securities Market

Financial Market

Money Market Securities Market

Organized Unorganized
Money Market Money Market Primary Market Secondary Market

Short Term Lending / Money Lenders/ Exchange traded OTC

Borrowing Private lenders market
 Investment Vehicles - Markets and Instruments
•Money Markets - short term interest bearing accounts.
–Primary objective - liquid asset, stability of principal.
–Secondary objective - income - meet short term needs.
•Fixed income debt and bonds - Intermediate and long term investments.
–Primary objective -- income. For example a 5 year tax saving FD
•Equity – Investment in shares. Long term investment. Short term too volatile.
–Primary objective is to provide growth of income in nominal terms, and capital appreciation. Stability of principal
compromised.
•Commodities - gold, crude oil etc.
–Useful when there is great deal of investment uncertainty. Linked to inflation and global concerns.
•Real Estate
•Others - antiques, art works, vintage cars and wine.

• Money Market Instrument

• Securities issued by the Government of India are called as Government securities (G-sec) or Gilt.

• Treasury Bills (T-Bill): are short term debt instruments issued by the Reserve Bank of India on behalf of the
Government of India. They carry a duration of normally - 91 day, 182 day, 364 days T-Bill (in India)

• Certificate of Deposit: bearer certificate and is negotiable in the market, issued in multiples of 5 Lakhs. Issued by
Banks (for 91 days to 1 year) or by Financial Institutions (for 1 – 3 years)

• Commercial Paper: is a short term unsecured instrument issued by a company in the form of promissory notes
with fixed maturities. The maturities period ranges from 15 days to less than one year, available in multiples of 5
Lakhs.

• Bonds / Debentures: are generally issued for tenors beyond a year. Governments and public sector companies
tend to issue bonds, while private sector companies tend to issue debentures.
• https://www.ccilindia.com/Research/Statistics/Pages/CCILTBILLIndex.aspx
• https://www.ccilindia.com/Pages/default.aspx
• Eurodollars: US dollar denominated deposits at foreign banks or overseas branches of US banks

• Eurobonds: A eurobond is a bond denominated in a currency other than the home currency of the country or
market in which it is issued. Despite its name, it has no particular connection to Europe or the Euro currency.
These bonds are frequently grouped together by the currency in which they are denominated, such as eurodollar
bonds or euroyen bonds.
• Issuance is usually handled by an international syndicate or financial institutions on behalf of the borrower, one of
which may underwrite the bond, thus guaranteeing purchase of the entire issue.

• Bankers Acceptances: A short-term debt instrument issued by a firm that is guaranteed by a commercial bank.
These instruments are similar to T-Bills and are frequently used in money market funds. BA are traded at a
discount from face value on the secondary market, which can be an advantage because the banker's acceptance
does not need to be held until maturity. Banker's acceptances are regularly used financial instruments in

• Repos – Dealers in government securities use repos as a form of short term (usually overnight) borrowing (sell
today and buy tomorrow)

• Reverse Repo – dealer seeks investor who holds bonds. He buys the bonds and agrees to sell the bonds back at
a specified higher price at a future date.

• LIBOR – London Inter-bank offer rate. Benchmark used Globally. Because of old contracts (30 yeasr/20 years,
etc.) still existing replace by:
• Euribor
• Secured Overnight Financing Rate (SOFR) – USA rate
• Sterling Over Night Indexed Average (SONIA) – UK rate

• MIBOR – Mumbai inter-bank offer rate for international trade

 Equivalent Tax Yield
• The tax-equivalent yield is the pretax yield that a taxable
bond needs to possess for its yield to be equal to that of a
tax-free municipal bond.

• This calculation can be used to fairly compare the yield of a

tax-free bond to that of a taxable bond in order to see which
bond gives a higher yield.

• Tax-Equivalent Yield = Tax free Municipal Bond Yield

(1- tax rate)

• Also known as "after-tax yield.“

 International Bond Market
• T-notes and Bonds issued by the US Treasury and foreign governments.

• Federal Agency Debt –government agencies issue own debt.

• Eurobond : Dollar denominated bond sold in London is a Eurodollar bond.

• Municipal bonds –issued by state and local governments. Interest income

exempt from state and local taxes in the issuing state. Capital gains taxed.
also known as "munibonds,“ in India
• Corporate bonds - issued by corporate entities.

• Mortgage backed securities – ownership claim in a pool of mortgages or

an obligation secured on a mortgage pool.
Risks Associated with Investing in Financial Assets

• Price risk – assets value drops when investors is forced to sell

• Default risk – issuer cannot meet obligations.

• Inflation or purchasing power risk – price inflation erodes value of an asset.

• Exchange rate risk – adverse movement in the exchange rate erodes value
of a foreign currency denominated asset.

• Reinvestment risk – cash flow received from asset is reinvested in the same
asset at a lower rate of return.

• Call risk – issuer calls bond early to repay debt.

• Liquidity risk – asset can’t be liquidated easily.

 Participants and Products in Debt Markets
http://www.bseindia.com/markets/debt/securitylist_cg.aspx?Type=C
ISSUER INVESTMENTS MATURITY INVESTORS

RBI, Banks, Insurance, Companies,

Central Government Dated Securities 2 - 30 years Provident Funds, Mutual Funds, PDs,
Individuals

RBI, Banks, Insurance, companies,

Central Government T-Bills 91 / 182 / 364 days Provident Funds, PDs, Mutual Funds,,
Individuals

Banks, Insurance Companies,

State Government, Funds Dated Securities 5 - 13 years
Provident, Individuals

Banks, Insurance Companies,

PSUs Bonds, Structured Obligations 5 - 10 years Provident Funds, Mutual Funds,
Individuals, Corporates

Banks. Mutual Funds, Corporates,

Corporates Debentures, Bonds 1 - 12 years
Individuals
Banks, Mutual Funds, Financial
Corporates, PDs Comm. Papers 15 days to 1 yr Institutions, Corporates, Individuals,
FIIs
Banks, Corporations, Individuals,
Scheduled Commercial Banks CoD 15 days to 1 yr Companies, Trusts, Funds,
Associations, FIs, NRIs
Banks, Corporations, Individuals,
Select Financial Institutions (under
CoD 1 - 10 years Companies, Trusts, Funds,
Umbrella Limit fixed RBI)
Associations, FIs, NRIs

Corporations, Individuals, Companies,

Scheduled Commercial Banks Bank Bonds (1-10 years) 1 - 10 years
Trusts, Funds, Associations, FIs, NRIs

Banks, Corporations, Individuals,

PSU Municipal Bonds 0 - 7 years Companies, Trusts, Funds,
Associations, Fis and NRIs

(Dated securities have a maturity of more than 1 year, T-bills up to 1 year, Dated securities have a coupon rate, T-bills have no coupons – sold at discounts)
 What Are Indices?
• A stock index or stock market index is a method of measuring the value of a section of the stock market. It is computed from the prices of
selected stocks (typically a weighted average).
• It is a tool used by investors and financial managers to describe the market, and to compare the return on specific investments.
• Criteria for Stocks to be in Index
• Quantitative criteria
– Market capitalization
– Liquidity
• Trading frequency
• Number of trades
• Value of share traded
– Industry representation
– Listed history

• Qualitative criteria
– Track record
 Market Index
• The grandfather of all equity indices is the DJIA which was first published in 1896.

• There are three main types of indices, namely price index, quantity index and value index.

• The price index is most widely used. It measures changes in the levels of prices of products in
the financial, commodities or any other markets from one period to another.

• The most popular index in financial market is the stock (equity) index which uses a set of stocks
that are representative of the whole market, or a specified sector, to measure the change in
overall behaviour of the markets or sector over a period of time.

• A stock index is important for its use:

– as the lead indicator of the performance of the overall economy or a sector of the
economy: A good index tells us how much richer or poorer investors have become.
– as a barometer for market behaviour
– as a benchmark for portfolio performance:
– as an underlying for derivatives like index futures and option.
– as it supports research (for example, as benchmarks for evaluating trading rules,
technical
• analysis systems and analysts’ forecasts); risk measurement and management; and asset
allocation.
 Stock and Bond Market Indices
• Dow Jones Industrial Average –over 100 years old. Collective average of 30
large U.S Blue chip stocks.
• Price Weighted index. Give higher priced shares more weight.
• There are other indices in the US and broadly based indices are computed and
published daily.
• Standard and Poor’s Index is composite of 500 firms.(Market value weighted
index)
• Other US market value indexes are;
• NYSE composite of all NY listed stocks.
• National Association of Security Dealers Automated Quotations (NASDAQ)
publishes an index of 4,000 over the counter firms traded on the exchange.
• The widest US index is the Wilshire 5000 index of the market value of all NYSE
and AMEX stocks plus actively traded NASDAQ stocks.
• Vanguard offers an index mutual fund, the total stock market portfolio that
matches the performance of the Wilshire 5000 index.
 International Indices
• Nikkei 225 –Japan. Price weighted index of largest Japanese shares trading on TSE.
• Nikkei 300 –is value weighted
• FTSE100 –value weighted. Also FTSE 250, All Share index.
• DAX
• Morgan Stanley Capital International (MSCI) computes over 50 countries indexes and
regional indexes. Market value weighted.
• MSCI Regional stock indexes (see page 54 BKM for full list).

• Developed countries;
• EAFE (Europe, Australia, Far East), EASEA (EAFE excluding Japan), Europe, Far East,
Kokusai (World Excl Japan), Nordic Countries, North America, Pacific and the World
Index.
• Emerging markets –Emerging markets index (EM), EM Asia, EM Far East, EM Latin
America, etc.
• Individual Countries Indexes
• Emerging Markets Index; Argentina to Venezuela.
 Bond Market Indices
• Several bond market indexes have been established to get a broad measure of
performance of a bond market.
• U.S. Bonds
– Salomon Smith Barney Bond Index
– (Bank of America) Merrill Lynch Domestic Master
– (Barclays) Lehman Brothers US Treasury Index
– The Capital Markets Bond Index
– Citi US Broad Investment-Grade Bond Index (USBIG)

• GLOBAL: http://www.bloomberg.com/markets/rates-bonds/benchmark-bond-
indexes

• INDIA : Fixed Income Indices

– Nifty 8-13 yr G-Sec Index
– Nifty 10 yr Benchmark G-Sec Index
– Nifty 10 yr Benchmark G-Sec (Clean Price) Index
– Nifty 4-8 yr G-Sec Index
– Nifty 11-15 yr G-Sec Index
– Nifty 15 yr and above G-Sec Index
– Nifty Composite G-Sec Index
 Regulators

• SEBI
• RBI
• Ministry of Finance
• Department of Economic affaires
• Department of Company affairs
• Government in general, where required to intervene
 Secondary Market
At the BSE, trading takes place in groups. The scrips traded are classified as
below:
• Group A : Specified shares
• Group B : Non-specified shares (further classified as B1 and B2)
• Group F : Debt market (Fixed income securities)
• Group G: Represents the government securities traded by retail investors.
• Group T : (securities settled on trade-to-trade basis)
• Group S : Securities forming part of BSE Indonext
• Group TS: Securities forming part of BSE Indonext settled on trade-to-trade basis
• Group Z : List of companies that have failed to comply with the listing requirements
and/or failed to resolve investor complaints. Introduced in 1999
• BSE IndoNext has been formed to benefit such small and medium size
companies (SMEs),
• Note: Trade to Trade settlement is a segment where shares can be traded only for
compulsory delivery basis. It means Trade to Trade shares cannot be traded on
intraday. Each share purchased/sold which are parts of this segment need to be
taken delivery by paying full amount. The settlement of scrips available in this
segment is done on a trade for trade basis and no netting off is allowed for the
day.