ch-1 investment a conceptual framework

8/6/2019 Ch-1 Investment a Conceptual Framework

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Ch-1 Investment A conceptualFramework


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Meaning of Investment

y Investment is the means of providing for dreams andplans for the future buying a home, sending yourchildren to college etc.

y It is the safest, most convenient and most effectiveway to build wealth.

y Investing is committing your funds to one or moreassets that will be held over some future time period.

It is putting your money to work for you.


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Assets for Investing

y Primary securities- stock, government bonds,treasury bills etc

y Derived Instruments Mutual funds, forward

contracts etcy Physical assets- House, land & building etc


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Financial & Economic meaning of investment

y In an economic sense, an investment is the purchaseof goods that are not consumed today but are used inthe future to create wealth.

y Example: Building a factory that is used to producegoods.

y In finance, an investment is a monetary assetpurchased with the idea that the asset will provide

income in the future or appreciate and be sold at ahigher price.


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Investment & Speculation

y According to Benjamin Graham he makesdistinction between speculation and investing- aninvestment operation is one which, upon through

analysis, promise safety of principle and an adequatereturn.

y Speculation occurs when an assets is purchased withhope that price will rise rapidly, leading to quick

profit.y Example: buying IPO, on the first day.


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Investment & Gambling

y The risks of investment can be managed so that theodds are in your favor.

y But in gambling risk is not manageable.

y Gambling is putting money at risk by betting onuncertain outcome, with the hope that you might winmoney.


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The investment process

y It is rare to find investors investing their savings in asingle security. Instead, they tend to invest in agroup of securities. Such group of securities is called

a Portfolio.y For constructing the effective portfolio, an investor

has to follow various steps.


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y Set investment policy

y Perform security analysis

y Construct a portfolio

y Revise the portfolio

y Evaluate the performance of portfolio.


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Setting investment policy

y Asset allocation Debt or equity or both

y Time horizon- long term or short term

y Risk tolerance- risk taker or risk averse

y Active portfolio management- undervalued stock-buy- overvalued stock- sell

y Passive management- trying to match portfolioindex- stock market index.


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Performing security Analysis

y For selection of securities for buying.

y Fundamental Analysis- to study financial data of theissuer

y Technical Analysis- by studying market statistics- topredict how security will perform.


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Portfolio Construction

y This step identifies those specific assets in which toinvest, as well as determining the proportion of theinvestors wealth to put into each one.

y Here Selectivity, timing and diversification issues areaddressed.

y Selectivity refers to security analysis and focuses onprice movements of individual securities.

y Timing involves forecasting of price movement ofstock relative to price movements of fixed incomesecurities.


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y Diversification aims at constructing a portfolio insuch a way that the investors risk is minimized.


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Portfolio Revision

y This step is the repetition of the three previous steps,as objective might change and previously heldportfolio might not be the optimal one.

y Portfolio performance evaluation: how portfolioperformed time to time.


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Risks of Investment

y Credit risk

y Inflation risk

y Interest rate risk

y Market risk


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y Credit risk: This is the possibility that the companyholding your money will not pay the interest ordividend.

y Inflation Risk:inflation risk is the chance that thepurchasing power of the invested rupees will decline.

This is the risk that the rupee you get when you sellyour asset will buy less than the rupee you originallyinvested in the asset.

y Interest rate risk: changes in the interest rate.y Market Risk: result in fluctuation in stock market

index


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Common errors in investmentManagement

y Not having clearly defined investment plan

y Investors become bored with their plan

y Investors tend to fall in love with security that rise in

price and forget to book their profits.

y Investors often overdose themselves on information.

y Investors are constantly in search of a shortcut.


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Quality of smart investor

y Smart investors have a plan for investing.

y Smart investors invest consistently

y Smart investors are patient

y Smart investors are not emotionally tied to theirinvestment poisiton.


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yTHANK YOU

ch-1 investment a conceptual framework

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