investments & risk

8/8/2019 Investments & Risk

1/20

Investments Scenario

Risk and Return


2/20

Introduction

Investment Decisions

Favourable Factors

Modes of Investment

Investment Programme

Process of Investment

Risk and Returns

Overview


3/20

Investment is defined asthe employment of funds,with the aim of achievingadditional income or some

growth in its value.

Investment involves the

commitment of resources.

Savings is primary source of

investments, via sacrifices

made in current consumption

Element of hope that benefits

will accrue in the future.

Economic definition Invt. is theallocation of monetary resources

to assets that are expected to

yield some gain or positive returns

over a given period of time.


4/20

Importance of Investment decisions LongerLife Expectancy Savings, by themselves do not

increase wealth. Higher pay scales, tough life-styles, early

retirements and longer life spans necessitate investments.

Inflation rising inflation (excess of 12%) erodes savings.

Investments must be in avenues that earn higher than the rateof inflation.

Interest Rates interest rates play an important role in

investments. Stability of interest and its relation to risk should

be considered prior to investments.

Taxation consideration must be given to investments

directed towards reducing tax liability.

Income higher income more savings better investment


5/20

Favourable Factors

Higher Investments needsfavourable environment forits proper functioning andgrowth. Influencing factors:

Social, Economic, Political.

a. Legal safeguards: a stablegovt. ensures adequate legal

protection, thus encouraging

savings and investments.

b. Stable currency: organized

monetary system, sound plans

and policies. Keeping inflation

in check, stable price levels.

c. Financial Inst.: better mobility

to savings, conversion into

productive invt. Manage risk,

liquidity, provide marketability.


6/20

Modes of Investments

Fixed Principle Investment: Savings A/c, Fixed Deposit

NSC, Govt. Bonds

Variable Principle Investment:

Equity & Preference shares

Convertible debentures

Non-security Investments:

Real Estate, Commodities

Business ventures

Art, antiques, valuables

Indirect Investments:

Provident / Pension fund

Insurance

Mutual Funds, UTI

Saver

Investor

Shares, bonds,

Govt. security

Cash

Bank

deposits

P.F, LIC,NSC,

Post off.

Land,

flats

Gold,

silver

Consumer

durables

Capital Market

New issues Stock market

Marketable assets


7/20

Investment Programme

# Safety ofPrincipal safety of principal amount is the primaryconcern. Thus, industry & economic trends must be reviewed.

Investments should be in diverse spheres to reduce risk.

# Liquidity minimum liquidity is important for emergency

situations. Thus, investments in highly liquid assets is essential

# Income Stability regularity of income at a consistent rate is

necessary in any investment pattern. Adequacy of income after

taxes should be the main consideration.

# Capital appreciation a high capital growth is required for

maintenance of purchasing power, i.e. counter inflation effect

# Legality all investments must be legal. All applicable laws

must be studied, e.g. minors, trust, shares, insurance etc.


8/20

Investment Steps

InvestmentAnalysis

InvestmentAnalysis

InvestmentPolicy

InvestmentPolicy

SecuritiesValuationSecuritiesValuation

PortfolioConstruction

PortfolioConstruction

Present worth

Future benefit

Value comparison

Combine results

Basic principles

Satisfy needs Invest timing

Diversified Set objectives

Future needs

Preferences

Prepare Policy

Industry review

Security analysis

Trend study


9/20

Investments in capital markets are in various types of financialinstruments, which are claims on money. These are known assecurities in the market language.

Security Analysis & Portfolio Mgt.

Security as per Securities Contracts (Regulation) Act, 1956, a

security includes shares, scrips, stocks, bonds, debentures orany other marketable securities of like nature, derivatives, unitsof MF, govt. securities, and rights / interests in such securities.

Security Analysis involves projection of future dividends or

earnings flow, forecast of the share price in future & estimatingthe intrinsic value of a security, based on the above estimations.

Security Analysis involves fundamental analysis of security,risk-return analysis, safety of funds & projection of future returns


10/20

Portfolio - a combination of various securities, with differentrisk-return characteristics constitutes a portfolio of an investor.

Security Analysis & Portfolio Mgt.

Portfolio Management portfolio mgt. involves analysis of therisk return characteristics of individual securities in a portfolio,and changes that may take place in combination with othersecurities, due to interaction among themselves and impact ofeach one of them on others.

Portfolio Management is the investment of funds in suchcombination of different securities in which the total risk of theportfolio is minimized, while expecting maximum return from it.


11/20


12/20

Risk and uncertainty are anintegral part of investments.

Risk refers to the variability of

outcome from the expected.

In order to analysis risk, one

should identify risk and must be

able to measure risk.

Risk should not be avoided, butit must be managed.

Understanding and measuring

risk is fundamental to the whole

investment process.

Risk

To have a higher return, an

investor must accept the fact

that he will face greater risks


13/20

Systematic Risk

Associated with the market

Non-diversifiable risk, uncontrollable risk

Depends on economic, sociological, political, legal factors

E.g. economy growth, Govt. stability, inflation, interest rate

Unsystematic Risk

Related to the company, its unique features

Diversifiable and controllable risk

Depends on the internal aspect of a business

E.g. new product launch, new competitor, labour strike,

shortage of raw material etc.

Risk classification


14/20

Unsystematic Risk divided into Business risk & Financial risk

Business risk is the variation from the pre-defined operating

level of a company. E.g. if expected EBIT is 15% and actuals

are 10% or 18%, it would be said that business risk is high.

Internal business risk may be due to the conservative nature of

the management. External business risk include cyclical

variations (age-wise & seasonal), changes in monetary policy.

Low fixed expenses, cost cutting help reduce business risks.

Financial risk depends on capital structure of the company, i.e.the debt-equity ratio / degree of financial leverage.

Large debt component increases the risk of uncertain returns to

shareholders, and thus increases risk.

Earnings must always be higher than cost of borrowings.

Risk classification (contd.)


15/20

Risk Measurement

Beta ()

Measure of non-diversifiable risk of a stock of a portfolio

Beta measures the relationship of the portfolio risk with respect

to the market risk / deviations.

Beta of a portfolio is the weighted average of the betas of thesecurities that constitute the portfolio.

Beta = 1 indicates average risk, i.e. portfolio returns are similar

to market returns. Beta > 1 indicates high risk, i.e. portfolio

returns are more riskier than market returns. Beta < 1 indicateslow risk, i.e. portfolio returns are less riskier than market returns.

It is an key evaluation tool of risk measurement for investors.

Beta = Systematic risk of asset portfolio

Risk of market portfolio


16/20

Risk Measurement

Alpha ()

Alpha is a risk-adjusted measure of the active return on an

investment. It is a measure of assessing active performance of

the return in excess of a benchmark index.

Alpha measures the stocks diversifiable risk and its averagereturn independent of the markets return.

Thus, alpha judges the efficiency of investment manager to

create wealth in all types of market conditions.

It favours active investment strategy against passive (anybodycan earn in a rising market i.e. market trends)

If alpha is gives a positive value, it is a healthy sign since it

indicates value creation (in the economic sense)


17/20

Risk Measurement

Correlation Coefficient (r)

Correlation coefficient between two securities measures the

relationship between two securities in a portfolio.

Correlation coefficient of + 1.0 indicates a direct relationship

between two stocks, and 1.0 implies inverse relationship. R=0,implies no correlation between the securities.

Also known as Rho

Standard Deviation ()

Standard Deviation is the degree of spread / range, away fromthe expected returns.

Greater the standard deviation of returns, higher is the risk in

the investment


18/20

Risk Measurement Coefficient ofVariation ()

Coefficient of Variation is a relative measure of risk.

CV is useful for comparing projects with the same standard

deviation but different returns or same returns but different

standard deviations.

Higher the CV implies higher is the relative risk.

Co-efficient of Variation (CV) = Std. deviation

Expected return


19/20

The major purpose of investment

is an expected return.

Returns includes dividends, rent,

interest, capital appreciation etc.

The most important feature of

financial assets are the size and

variability of their future returns.

As returns on investment fluctuate,

various techniques are used to

measure it.

Returns


20/20

Normal Returns = Cash income

Amount invested

Current Yield on Bonds = Annual coupon

Purchase price

Yield to Maturity Bonds = Coupon + (Maturity Par value) / Period

(Maturity + Par value) / 2

Return on stocks = Dividend + (current price purchase price)

Purchase price

Returns Measurement

investments & risk

Documents