CHAPTER – ONE

INTRODUCTION TO INVESTMENT
 1.1. Definition of Investment
•Investment is the commitment of money or capital to purchase financial
instruments or other assets in order to gain profitable returns.
•An investment involves the choice by an individual or an organization such as
a pension fund, to place or lend money in a vehicle, instrument or asset, such as
property, commodity, stock, bond, financial derivatives or the foreign asset
denominated in foreign currency, that has certain level of risk & provides the
possibility of generating returns.
When an asset is bought or a given amount of money is invested in the bank,
there is expectancy that some return will be received from the investment.
 Definition of Investment from different Perspectives:
•Investment in terms of Economics:-
According to economic theories, investment is defined as the per-unit
production of goods, which have not been consumed, but will however, be
used for the purpose of future production.
Examples of this type of investment are tangible goods like construction of a
factory or bridge and intangible goods like 6 months of on-the-job training.
In terms of national production and income, Gross Domestic Product (GDP)
has an essential constituent, known as gross investment.
 Investment in terms of Business Management:
 According to BM theories, investment refers to tangible assets like
machinery and equipment and buildings and intangible assets like copyrights
or patents and goodwill.
Investment in terms of Finance:
In finance, investment refers to the purchasing of securities or other financial
assets from the capital market.
• Some examples are gold, silver, real properties, and precious items.
Financial investments are in stocks, bonds, and other types of security
investments. Indirect financial investments can also be done with the help of
mediators or third parties, such as pension funds, mutual funds, commercial
banks, and insurance companies.
 Investment in terms of Personal Finance:
According to personal finance theories, an investment is the implementation
of money for buying shares, mutual funds or assets with capital risk.
Investment in terms of Real Estate:
According to real estate theories, investment is referred to as money utilized
for buying property for the purpose of ownership or leasing.
COMMERCIAL REAL ESTATE: Commercial real estate involves a real
estate investment in properties for commercial purposes such as renting.
• RESIDENTIAL REAL ESTATE: This is the most basic type of real estate
investment, which involves buying houses as real estate properties.
1.2 Investment vehicles
• Investment in financial assets differs from investment in physical
assets in those important aspects:
 Financial assets are divisible, whereas most physical assets are not.
An asset is divisible if investor can buy or sell small portion of it. In
case of financial assets it means, that investor, for example, can buy
or sell a small fraction of the whole company as investment object
buying or selling a number of common stocks.
 Marketability (or Liquidity) is a characteristic of financial assets that
is not shared by physical assets, which usually have low liquidity.
Marketability (or liquidity) reflects the feasibility of converting of the
asset into cash quickly and without affecting its price significantly.
Most of financial assets are easy to buy or to sell in the financial
markets.
Meaning of investment
#Investment is the current commitment of dollars for a period of time
in order to derive future payments that will compensate the investor
for (1) the time the funds are committed,
(2) the expected rate of inflation, and
(3) the uncertainty of the future payments.
 Contd…

The main types of financial investment vehicles are:

Short term investment vehicles;
Fixed-income securities;
Common stock;
Speculative investment vehicles;
Other investment tools.
 Contd…
A) Short - term investment vehicles are all those which have a maturity of one
year or less.
are defined as money-market instruments, because they are traded in the money
market which presents the financial market for short term (up to one year of
maturity) marketable financial assets.
The risk as well as the return on investments of short-term investment vehicles
usually is lower than for other types of investments.
The main short term investment vehicles are:
Certificates of deposit;
Treasury bills;
Commercial paper;
Bankers’ acceptances;
Repurchase agreements.
 Contd…
a) Certificate of deposit is debt instrument issued by bank that indicates a specified sum of
money has been deposited at the issuing depository institution.
 Certificate of deposit bears a maturity date and specified interest rate and can be issued in
any denomination.
 Most certificates of deposit cannot be traded and they incur penalties for early withdrawal.
b) Treasury bills (also called T-bills) are securities representing financial obligations of the
government. Treasury bills have maturities of less than one year.
 have the unique feature of being issued at a discount from their nominal value and the
difference between nominal value and discount price is the only sum which is paid at the
maturity for these short term securities because the interest is not paid in cash, only
accrued.
 other important feature of T-bills is that they are treated as risk-free securities ignoring
inflation and default of a government
 the T-bill will pay the fixed stated yield with certainty.
 T- Bills are high liquid assets.
 Contd…
c) Commercial paper is a name for short-term unsecured promissory notes issued
by corporation. Commercial paper is a means of short-term borrowing by large
corporations. Large, well-established corporations have found that borrowing
directly from investors through commercial paper is cheaper than relying solely on
bank loans. Commercial paper:
 is issued either directly from the firm to the investor or through an intermediary.
 issued at a discount.
 The most common maturity range of CP is 30 to 60 days or less.
 is riskier than T-bills
d)Bankers acceptances are the vehicles created to facilitate commercial trade
transactions. These vehicles are called bankers acceptances because a bank accepts
the responsibility to repay a loan to the holder of the vehicle in case the debtor
fails to perform. Banker’s acceptances are short-term fixed-income securities that
are created by non-financial firm whose payment is guaranteed by a bank.
 Contd…
e) Repurchase agreement (often referred to as a repo) is the sale of
security with a commitment by the seller to buy the security back from
the purchaser at a specified price at a designated future date.
 a repo is a collectivized short-term loan, where collateral is a security.
 The collateral in a repo may be a Treasury security, other money-
market security.
 The difference between the purchase price and the sale price is the
interest cost of the loan, from which repo rate can be calculated.
 Contd...
B) Fixed-income securities are those which return is fixed, up to some redemption date or
indefinitely.
This type of financial investments is presented by two different groups of securities:
 Long-term debt securities
 Preferred stocks.
i) Long-term debt securities can be described as long-term debt instruments representing
the issuer’s contractual obligation.
 have maturity longer than 1 year.
 The buyer (investor) of these securities is landing money to the issuer, who undertake
obligation periodically to pay interest on this loan and repay the principal at a stated maturity
date.
 Long-term debt securities are traded in the capital markets.
 The major representatives of long-term debt securities are bonds(big variety of different
kinds of bonds)
 different issuers like governments, municipals, companies, agencies, etc
 Contd…
ii) Preferred stocks are equity security, which has infinitive life and pay
dividends.
 It is attributed to the type of fixed-income securities, because the
dividend for preferred stock is fixed in amount and known in advance.
 The main difference between preferred stocks and bonds is that for
preferred stock the flows are forever, if the stock is not callable.
 The preferred stockholders are paid after the debt securities holders
but before the common stock holders in terms of priorities in
payments of income and in case of liquidation of the company.
 If the issuer fails to pay the dividend in any year, the unpaid dividends
will have to be paid if the issue is cumulative.
 Contd…
C) The common stock is the other type of investment vehicles which is one of most
popular among investors with long-term horizon of their investments.
 It represents the ownership interest of corporations or the equity of the stock holders.
 Holders of common stock are entitled to attend and vote at a general meeting of
shareholders, to receive declared dividends and to receive their share of the residual
assets, if any, if the corporation is bankrupt.
 many companies are issuing their common stocks which are traded in financial
markets
D)Speculative investment vehicles the term “speculation” could be defined as
investments with a high risk and high investment return.
speculators try to buy low and to sell high, their primary concern is with anticipating
and profiting from the expected market fluctuations.
 The only gain from such investments is the positive difference between selling and
purchasing prices.
 1.3. Investment companies

•An investment company is a company whose main business is holding

securities of other companies purely for investment purposes. The
investment company invests money on behalf of its shareholders who in turn
share in the profits and losses.
•Generally, an "investment company" is a company that issues securities and
is primarily engaged in the business of investing in securities.
• They may be a corporation or trust engaged in the business of investing the
pooled capital of investors in financial securities.
Contd…
The federal securities laws categorize investment companies into three
basic types:
Mutual funds (legally known as open-end companies);
Closed-end funds (legally known as closed-end companies);
UITs (legally known as unit investment trusts).
• Each type has its own unique features. For example, mutual fund and UIT
shares are "redeemable" (meaning that when investors want to sell their
shares, they sell them back to the fund or trust, or to a broker acting for
the fund or trust, at their approximate net asset value).
• Closed-end fund shares, generally are not redeemable. Instead, when
closed-end fund investors want to sell their shares, they generally sell
them to other investors on the secondary market, at a price determined
by the market.
 Security market

Definition of 'Security‘:- Securities are typically divided into debt

securities and equities. A debt security is a type of security that
represents money borrowed must be repaid, with terms that define
the amount borrowed, interest rate and maturity/renewal date.
Debt securities: include gov’t and corporate bonds, certificates of
deposit (CDs).
Equities: represent ownership interest held by shareholders in a
corporation, such as a stock. Unlike holders of debt securities who
generally receive only interest and the repayment of the principal,
holders of equity securities are able to profit from capital gains.
 Con’d
•Securities market is a component of the wider financial market where
securities can be bought and sold between subjects of the economy, on the
basis of demand and supply. Securities markets encompasses equity markets,
bond markets and derivatives markets where prices can be determined and
participants both professional and non-professionals can meet.
•Securities markets can be split into two levels. Primary markets, where new
securities are issued and secondary markets where existing securities can be
bought and sold. Secondary markets can further be split into
organized exchanges, such stock exchanges and over-the-counter where
individual parties come together and buy or sell securities directly.
 Levels of securities market

i. Primary market
•The primary market is that part of the capital markets that deals with the
issue of new securities. Companies, governments or public sector institutions
can obtain funding through the sale of a new stock or bond issue. This is
typically done through a syndicate of securities dealers. The process of selling
new issues to investors is called underwriting. In the case of a new stock
issue, this sale is a public offering. Dealers earn a commission that is built into
the price of the security offering, though it can be found in the prospectus.
Primary markets create long term instruments through which corporate
entities borrow from capital market.
 Features of primary markets are:
 This is the market for new long term equity capital. The primary market is the market where the
securities are sold for the first time. Therefore it is also called the new issue market (NIM).
 In a primary issue, the securities are issued by the company directly to investors.
 The company receives the money and issues new security certificates to the investors.
 Primary issues are used by companies for the purpose of setting up new business or for
expanding or modernizing the existing business.
 The primary market performs the crucial function of facilitating capital formation in the
economy.
 The new issue market does not include certain other sources of new long term external finance,
such as loans from financial institutions. Borrowers in the new issue market may be raising
capital for converting private capital into public capital; this is known as "going public."
 ii. Secondary market
•The secondary market, also known as the aftermarket, is the financial
market where previously issued securities and financial instruments
such as stock, bonds, options, and futures are bought and sold. The term
"secondary market" is also used to refer to the market for any used
goods or assets, or an alternative use for an existing product or asset
where the customer base is the second market (for example, corn has
been traditionally used primarily for food production and feedstock, but
a "second" or "third" market has developed for use in ethanol
production).
 Con’d
•With primary issuances of securities or financial instruments, or the primary
market, investors purchase these securities directly from issuers such as
corporations issuing shares in an IPO or private placement, or directly from the
federal government in the case of treasuries. After the initial issuance, investors
can purchase from other investors in the secondary market.
•The secondary market for a variety of assets can vary from loans to stocks, from
fragmented to centralized, and from illiquid to very liquid. The major stock
exchanges are the most visible example of liquid secondary markets - in this
case, for stocks of publicly traded companies. Exchanges such as the New York
Stock Exchange, Nasdaq and the American Stock Exchange provide a
centralized, liquid secondary market for the investors who own stocks that trade
on those exchanges.
 iii. Over-the-counter market
•Over-the-counter (OTC) or off-exchange trading is to trade financial
instruments such as stocks, bonds, commodities or derivatives directly
between two parties. It is contrasted with exchange trading, which occurs via
facilities constructed for the purpose of trading (i.e., exchanges), such as
futures exchanges or stock exchanges. In the U.S., over-the-counter trading
in stock is carried out by market makers that make markets in OTCBB and
Pink Sheets securities using inter-dealer quotation services such as
Pink Quote (operated by Pink OTC Markets) and the OTC Bulletin Board (
OTCBB).
Thank You!