CU-MBA-SEM-IV-Investment Management

MASTER OF BUSINESS ADMINISTRATION SEMESTER-IV INVESTMENT MANAGEMENT

CHANDIGARH UNIVERSITY Institute of Distance and Online Learning SLM Development Committee Prof. (Dr.) H.B. Raghvendra Vice- Chancellor, Chandigarh University, Gharuan, Punjab:Chairperson Prof. (Dr.) S.S. Sehgal Registrar Prof. (Dr.) B. Priestly Shan Dean of Academic Affairs Dr. Nitya Prakash Director – IDOL Dr. Gurpreet Singh Associate Director –IDOL Advisors& Members of CIQA –IDOL Prof. (Dr.) Bharat Bhushan, Director – IGNOU Prof. (Dr.) Majulika Srivastava, Director – CIQA, IGNOU Editorial Committee Prof. (Dr) Nilesh Arora Dr. Ashita Chadha University School of Business University Institute of Liberal Arts Dr. Inderpreet Kaur Prof. Manish University Institute of Teacher Training & University Institute of Tourism & Hotel Management Research Dr. Manisha Malhotra Dr. Nitin Pathak University Institute of Computing University School of Business © No part of this publication should be reproduced, stored in a retrieval system, or transmitted in any formor by any means, electronic, mechanical, photocopying, recording and/or otherwise without the prior written permission of the authors and the publisher. SLM SPECIALLY PREPARED FOR CU IDOL STUDENTS 2 CU IDOL SELF LEARNING MATERIAL (SLM)

First Published in 2021 All rights reserved. No Part of this book may be reproduced or transmitted, in any form or by any means, without permission in writing from Chandigarh University. Any person who does any unauthorized act in relation to this book may be liable to criminal prosecution and civil claims for damages. This book is meant for educational and learning purpose. The authors of the book has/have taken all reasonable care to ensure that the contents of the book do not violate any existing copyright or other intellectual property rights of any person in any manner whatsoever. In the event, Authors has/ have been unable to track any source and if any copyright has been inadvertently infringed, please notify the publisher in writing for corrective action. 3 CU IDOL SELF LEARNING MATERIAL (SLM)

CONTENTS Unit 1 Meaning Of Investment .............................................................................................. 5 Unit 2 Investment, Speculation And Gambling.................................................................... 15 Unit 3 Investment Factors ................................................................................................... 21 Unit 4 Investment Avenues ................................................................................................. 31 Unit 5 Investment Avenues ................................................................................................. 43 Unit 6 Risk & Return .......................................................................................................... 56 Unit 7 Concept Of Risk ....................................................................................................... 69 Unit 8 Investment Companies ............................................................................................. 88 Unit 9 Asset Allocation Decisions ....................................................................................... 97 Unit 10 Developments In Investment Theory .................................................................... 107 Unit 11 Introduction To Asset Pricing Model .................................................................... 117 Unit 12 Analysis And Management Of Common Stock ................................................. 131 Unit 13 Analysis And Management Of Fixed Income Securities ....................................... 147 Unit 14 Managing Mutual Funds ....................................................................................... 169 4 CU IDOL SELF LEARNING MATERIAL (SLM)

UNIT 1MEANING OF INVESTMENT STRUCTURE 1.0 Learning Objectives 1.1 Introduction 1.2 Concept and Objectives of Investment 1.3 Attributes of Investment 1.4 Constraints of Investment 1.5 Economic Vs Financial Investment 1.6 Summary 1.7 Keywords 1.8 Learning Activity 1.9 Unit End Questions 1.10 References 1.0 LEARNING OBJECTIVES After studying this unit you will be able to  Describe the concept of investment and its objectives  State the attributes of investment  Identify the constraints involved in investment  Compare economic and financial investment 1.1 INTRODUCTION You must have heard about the term investment, investment tips and ideas. In general we know the term investment. From this chapter you will understand the concept of investment in a better way. Investment is done by the investors primarily to earn money. However making money by investing in assets also involves risk. So investors are concerned about safety of the amount invested. Investment involves sacrificing current income for probable 5 CU IDOL SELF LEARNING MATERIAL (SLM)

future income.Also there are certain difficulties involved like investor’s time horizon, his liquidity preference, tax rates applicable, legal issues while investing etc. Taking into account basic criteria like return and risk he has to consider various other factors as well which we shall see in this chapter. An investor decides his investment strategy after evaluating attributes of investment. Investment is made by businessmen on assets i.e. capital goods used for production of goods which improves the productive efficiency. Also investments are done on financial assets like stock, bonds, bank deposits e t c.In this chapter we will come to know from about economic investment and financial investmentand their differences. 1.2CONCEPT AND OBJECTIVES OF INVESTMENT In simple terms investment means employment of money to make more money. We can say investment means purchase of a financial product with the expectation of favourable future returns. Investment can be said as sacrifice of current consumption with the hope that some benefit will be received in future. Such returns in future compensates the investor for waiting period involved, the expected rate of inflation and uncertainty of future payments. The definition of investment includes a. Investment by corporations in plant and machinery, equipment and capital goods used for the production of goods. b. Investment by investors in shares, debentures, bonds, real estate e t c with a view to derive future income such as dividends, interest and capital gains. Investors need to make investment after a thorough analysis of avenues available which will maximise returns with the lowest possible risk. Our study will basically be covering investment by investors in financial products i.e. financial investment. Let us now discuss about the objectives of investment. The major objectives of investment are 6 CU IDOL SELF LEARNING MATERIAL (SLM)

1. Safety: The primary objective of any investment is to security and safety. While no investment is completely safe government securities, money market instruments and securities guaranteed by banks are risk free. However risk free investments carry lower rates of return. A risk averse investor can opt for such investments. 2. Income generation: The investor is interested in earning income in the form of dividend, interest or yield. The investment should earn a reasonable and expected return estimated by the investor 3. Capital appreciation: The investors make investments to earn capital appreciation over a period of time. The investors who want to limit their risk exposure invest in a conservative manner in a portfolio which helps in wealth building. The investors who are ready to take high risks for greater returns invest in aggressive growth stocks for short term and long term capital gains. Speculators buy and sell stocks to maximise their profits from short term price fluctuations. 4. Risk: An investor who is ready to take risks can expect a greater return by investing in an aggressive portfolio. After a careful study and analysis the investor needs to invest to minimise his risk. 5. Liquidity: The investor needs to keep the degree of liquidity required by him before investing. Generally investors prefer to invest in securities which can be readily converted into cash in the market. Some securities may be liquid while others may not. This needs to be borne in mind before investing. 6. Tax considerations: The investor needs to keep in mind the tax implications such as income tax, capital gains tax, tax on gifts etc. He has to judiciously select from the investment options that will minimise his tax burden and avail tax exemption 1.3 ATTRIBUTES OF INVESTMENT (efinancemanagement.com, n.d.)For the purpose of making effective investment the various alternatives needs to be evaluated. Following factors have to kept in mind while evaluating investment options 7 CU IDOL SELF LEARNING MATERIAL (SLM)

1. Return on investment: A good return on investment is the most important condition while evaluating investment options. The rate of return is the ratio of returns received during the year plus the difference between the price at the end of the year and the price at the beginning of the year to the initial investment made. Rate of return = Returns received during the year + (Price at the end of the year – Price atthe beginning of the year) X 100 Initial investment Example: Mr A purchased shares for ₹ 1000 of X Ltd. He received dividend of Rs 10. Price at the end of the year was ₹ 1500. Mr A’s return on investment would be Rate of return = 10 + (1500-1000) / 1000 X 100 = 51 % 2. Risk: The risk on different options of investment varies a lot. The general phenomena is more the risk higher would be the returns. More returns can be expected out of risky investments. Risk can be defined as the variability of returns to the expected returns. It is measured on various parameters such as standard deviation, variance and beta. The role of the finance manager is to maximise the returns with minimum possible risk. 3. Convenience: It means the ease with which investments can be made and managed. When we can make and look after the investment easily it is said to be easily manageable. One can make investment in equity shares easily compared to real estate since real estate involves lot of documentation and complying with legal requirements. When a portfolio can be restructured when needed it offers convenience for the investor. 4. Liquidity: Liquidity refers to the marketability of investments made. When funds are available for a short time it is better to invest in liquid assets since they can be easily converted to cash. 5. Tax considerations: The tax incidence needs to be minimised to maximise the quality of the portfolio. Countries which offer tax incentives attract more foreign direct investment. 8 CU IDOL SELF LEARNING MATERIAL (SLM)

6. Cost efficient: A good portfolio should achieve its objective at lowest possible cost. The transaction cost of managing and restructuring the portfolio should be compensated with higher returns. 1.4 CONSTRAINTS OF INVESTMENT (wizely.in, n.d.)Besides considering risk and return from investment certain other considerations and constraints influence investment decisions. These are 1. Time horizon: These are related to the time period over which returns are expected from the portfolio to meet specific fund requirements. Generally an investor having a long time horizon can take more risk in his portfolio and requires less marketable securities. Similarly a person whose age is 25 can afford to take more risk while investing rather than a person who will be retiring in the near future. Longer the time period of investment greater will be the return since risky assets can be incorporated in the portfolio. 2. Liquidity: These constraints are associated with funds required at a specific time in future where outflows by way of expenses will be in excess of inflows available. The requirement of funds in future in excess of future income becomes a constraint on current investment. Such investors will have to invest in liquid assets since it is easily marketable. However the returns of such investments will be lower than other options available. 3. Tax considerations: Returns on different types of assets are taxed at different rates. The investor has to take into account the different types of taxes applicable before deciding on his investment pattern. He needs to evaluate the tax benefits of different alternatives of investment. 4. Legal issues: These issues affect only institutional investors since certain restrictions are placed on them for investment in areas notified by the government. This is done with a view to protecting general public interest. They are externally generated. For example Foreign Direct investment is prohibited in sectors like agriculture, lottery business, atomic energy, railways etc. 5. Individual preferences: These are specific choices and concerns mostly internally generated to comply with ethical values, religious sentiments etc. Some may not prefer to invest in companies selling liquor, tobacco etc. Some may have preference to 9 CU IDOL SELF LEARNING MATERIAL (SLM)

invest in gold since it is considered as a low-risk safe investment option rather than in equity market. 1.5ECONOMIC VS FINANCIAL INVESTMENT Whenever we refer to investment we mean Financial Investment. Financial Investment is a broader concept and includes economic investment as well. Economic Investment: When an investment is made as an addition to existing capital stock or as new replacement to the capital stock it is economic investment. Capital stock or goods are used for production of goods or inventory. Economic investment may be in the form of investment in factories, machinery, construction equipment e t c which improves the productive efficiency. Financial Investment: Financial Investments includes investment on physical assets as well as financial assets made with an objective of financial gain. Examples of physical assets are physical gold, land & building, factories, plant & machinery, equipment e t c. Examples of financial assets are stocks, bonds including gold bonds and derivative contracts. We can now understand the difference between Economic vs Financial Investment  Economic investment means investing in new assets or making new replacement  Financial investment means investing on new or existing assets.  Economic investment is investment on physical or real assets.  Financial investment is investment on real assets as well as financial assets.  The aim of economic investment is to increase or improve productive capacity of the entity.  The aim of financial investment is to make financial gain.  Financial investment is a broader concept to include economic investment and other investments whereas economic investment is a narrower concept. 1.6 SUMMARY Investment is the sacrifice of current consumption of money with the object of earning more in future. The return on investment includes income by way of dividend, interest e t c and capital appreciation on investment done. This return should compensate the investor for the risk involved, time period and expected rate of inflation. 10 CU IDOL SELF LEARNING MATERIAL (SLM)

The basic considerations while making investment are  Safety of principal  Return expectation of the investor  Risk assumed by the investor Other aspects to be considered by the investor are  Time period  Liquidity needed  Tax considerations  Ease of making investment  Flexibility to restructure when needed. A good investment portfolio should maximise returns with the minimum possible risk. When we refer to investment we necessarily mean financial investment. Economic investment means investment in physical assets by entrepreneurs to improve productive capacity Financial investment means investment in physical as well as financial assets. Thus Financial Investment is a broader concept than economic investment 1.7 KEYWORDS  Investment is the initial or principal amount invested  Risk can be measured as variance, standard deviation and beta  Return is income plus capital appreciation also termed as capital gains.  Economic Investment means investment in physical or real assets.  Financial Investment is investment in real assets as well as financial assets. 1.8 LEARNING ACTIVITY 1. Define Investment and its attributes ___________________________________________________________________________ _____________________________________________ 2. State the objectives of investment 11 CU IDOL SELF LEARNING MATERIAL (SLM)

________________________________________________________________ ______________________________________ 1.9 UNIT END QUESTIONS A. Descriptive Questions Short Questions 1. Explain the major objectives of investment 2. What should be investment strategy of a risk averse investor? 3. What do you mean by the term Liquidity? State examples. 4. How do you evaluate investment options? 5. Explain the relationship between risk and return in relation to investment Long Questions 1. Explain in detail how a finance manager should manage his portfolio with respect to avenues available. 2. Higher risk means higher returns. Is it always true? Explain with an example 3. State and explain issues to be addressed when investing 4. State the differences between Economic and Financial Investment 5. Explain in detail the major objectives of investment B. Multiple Choice Questions 1. The return on investment is_____________. a. Income b. Price appreciation c. Capital gains d. a& c 2. The relationship between risk and returns is _____________ 12 a. Direct b. Not there c. Inverse d. exactly proportionate CU IDOL SELF LEARNING MATERIAL (SLM)

3. Speculators benefit from _____________ price fluctuations a. Medium term b. Short term c. Average term d. Long term 4. _________ is a major concern for a conservative investor a. Safety b. Risk c. Returns d. Time 5. In general terms investment means ____________ investment a. Economic b. Domestic c. Financial d. Tax free Answers 1–d, 2–a,3–b, 4–a, 5-c 1.10 REFERENCES Textbook  Chandra, P. (2009). Investment Analysis and Portfolio Management. In P. Chandra, Investment Analysis and Portfolio Management (pp. 3-4). New Delhi. Website 13 CU IDOL SELF LEARNING MATERIAL (SLM)

 (dynamictutorialsandservices, n.d.)  (efinancemanagement.com, n.d.)  (investmentpedia.org, n.d.) 14 CU IDOL SELF LEARNING MATERIAL (SLM)

UNIT 2 INVESTMENT, SPECULATION AND GAMBLING STRUCTURE 2.0 Learning Objectives 2.1 Introduction 2.2 What is Speculation? 2.3 Differences between Investment and Speculation 2.4 Differences between Speculation and Gambling 2.5 Summary 2.6 Keywords 2.7 Learning Activity 2.8 Unit End Questions 2.9 References 2.0 LEARNING OBJECTIVES After studying this unit you will be able to  Describe Speculation  List the differences between Investment and Speculation  State the difference between Speculation and Gambling 2.1 INTRODUCTION In the previous chapter we understood the concept of Investment. We have heard about people making money in the stock market and becoming rich. Stock market provides opportunities for people with different risk appetite to make investments. There are investors, traders and speculators in the market. The risks assumed by each category are different and accordingly returns are different. Investors and traders assume different levels of risk and structure their portfolio. Traders assume greater risk than investors. Hence they earn more returns than investors. 15 CU IDOL SELF LEARNING MATERIAL (SLM)

We will understand the differences between investment and speculation through this chapter. People make money through gambling in casinos. However risk assumed here is different from stock market speculators. Even speculators take risk. From this chapter you will understand how speculation is different from gambling though both involve risk. In this chapter we will understand the term Speculation and clearly understand the difference between Investment and Speculation. You will also be able to identify the differences between Speculation and Gambling. 2.2 WHAT IS SPECULATION? Speculation is done by traders who expect to benefit from short term price fluctuations in themarket. Speculators invest in stocks or projects that show a high probability of failure. Though risk assumed is high the returns which they may derive are higher than investors. 2.3 DIFFERENCES BETWEEN INVESTMENT AND SPECULATION (Investment Analysis and Portfolio Management, 2009) Points of distinction Investor Speculator Time period Risk An investor has a long A speculator has a short Return horizon of time. The holding horizon of time. The holding Base for decisions period is usually more than period is from a few weeks one year. to a few months An investor takes average to A speculator is usually moderate risk. Rarely he willing to take high risk assumes high risk An investor expects Speculators seek higher rate satisfactory return on their of returns for the higher capital for taking average or risks assumed by them. below average risk Investors analyse and Speculators take decisions research before investing. based on technical analysis They use tools like and market psychology. fundamental or technical Technical analysis uses 16 CU IDOL SELF LEARNING MATERIAL (SLM)

analysis to choose their statistical trends such as strategies and design their prices, volume, trading investment portfolios. activity to identify trading Fundamental analysis takes opportunities and to evaluate into account microeconomic investments and macroeconomic factors which affect the value of securities An investor uses his own Speculators resort to Source of funds funds for investment substantial borrowings to purposes and avoids supplement their personal borrowing. funds 2.4 DIFFERENCES BETWEEN SPECULATION AND GAMBLING (noteslearning.com, n.d.) Gambling is the act of playing for stakes in the hope of winning. The outcome of gambling is uncertain but known immediately unlike speculation and investment e g outcome of roll of dice or turn of card is known immediately. Though speculators take high risk it is based on technical analysis and market study. Gambling does not involve a bet on economic activity. Rational people gamble for fun, not for income. Speculators trade on recognised stock exchanges. Gambling is not regulated by any kind of laws. Speculators have to meet stock exchange and otherlegal requirements. Gambling involves very high risk without commensurate returns. Though risk is involved in speculation it is compensated by high returns since decisions are made after complete analysis of markets. 2.5 SUMMARY  Investment in the stock market is done by investors, traders and speculators. The risk assumed by each category is different.  Investors base their decisions on fundamental and technical analysis and undertake investment after a thorough research and study. Their time horizon of investment is 17 CU IDOL SELF LEARNING MATERIAL (SLM)

more than a year. Investors earn returns higher than risk free rate but less than speculators since risk taken is average or below average risk. They use their own funds and do not borrow.  Speculators take decisions based on technical analysis and market psychology. Their time horizon is from a few weeks to months. Speculators are risk takers hence returns are above average. They use borrowed funds to invest besides personal funds.  In contrast to investing and speculating gambling is undertaken not based on any economic activity. The risk is high without commensurate returns. The chances of losing money are more in case of gambling compared to speculation. Speculation involves risk but investments are done after market analysis. Gambling does not involve legal compliances whereas speculators need to meet stock exchange requirements which is regulated by Securities and Exchange Board of India (SEBI) 2.6 KEYWORDS  Investors: structure their portfolio in a conservative or aggressive manner based on thorough research and study.  Speculators; base their decisions on technical analysis and market study.  Leverage: the use of debt for investment resorted by speculators.  Gamblers: have equal chances of winning or losing, it is done for fun not for earning income. 2.7 LEARNING ACTIVITY 1. Why do you think speculation is more risky than investment decisions? ___________________________________________________________________________ ___________________________________________________ 2. What is the difference between speculation and gambling? ___________________________________________________________________________ ___________________________________________________ 2.8 UNIT END QUESTIONS A. Descriptive Questions Short Questions 18 CU IDOL SELF LEARNING MATERIAL (SLM)

1. What do you understand by the term speculation? 2. How do investors take investment decisions? 3. Do you agree that speculators earn more than investors? Why? 4. What are the risk factors involved in speculation and gambling? Which one is more risky? 5. How do speculators benefit in the stock market? Long Questions 1. What should be the investment strategy for an aggressive investor? 2. List down the differences between investors and speculators. 3. Explain how speculators undertake trading in stock markets 4. What should be the investment strategy of a person who wants to earn greater profits during the short term? 5. Do you think speculation and gambling involves same amount of risk? Explain(Bhalla, 2011) B. Multiple Choice Questions 1. ___________________ analysis involves a thorough research and study. a. Technical b. Fundamental c. Statistical d. Cost 2. __________________ has a leverage benefit. a. Investors b. Gamblers c. Speculators d. Traders 3. Firm level analysis and overall economy analysis is used by __________ 19 a. Speculators CU IDOL SELF LEARNING MATERIAL (SLM)

b. Investors 20 c. Gamblers d. Traders 4. Legal compliance is necessary for _____________ and ____________ a. Investors and Gamblers b. Speculators and Investors c. Speculators and Gamblers d. Investors and Corporates 5. The holding period for __________ is more than a year a. Investors b. Gamblers c. Speculators d. Traders Answers 1–b, 2–c, 3–b, 4–b, 5-a 2.9 REFERENCES Textbook  (Investment Analysis and Portfolio Management, 2009)  (Bhalla, 2011) Website  http://noteslearning.com>investme...  https://keydifferences.com CU IDOL SELF LEARNING MATERIAL (SLM)

UNIT 3 INVESTMENT FACTORS STRUCTURE 3.0 Learning Objectives 3.1 Introduction 3.2 Factors influencing Investment decisions 3.2.1 Individuals 3.2.2 Firms 3.3 Features of a good investment 3.4 Investment Process 3.5 Summary 3.6 Keywords 3.7 Learning Activity 3.8 Unit End Questions 3.9 References 3.0 LEARNING OBJECTIVES After reading this chapter you will understand  Factors which drive investment decisions in case of individuals and firms.  Identify what makes a good investment  State the process of investment 3.1 INTRODUCTION In the last chapters we understood the concept of Investment. In this chapter we will understand factors that are taken into account by an individual while making investment decisions. An investor takes into account basic factors as discussed in chapter 1 safety of principal, return on investment and risk while investing. Though these factors dominate any investment decision economic and business conditions at the macro level such as inflation, taxation laws, business conditions whether favourable or unfavourable, government policies 21 CU IDOL SELF LEARNING MATERIAL (SLM)

e t c also has an impact on the decisions of the investor Firms/businesses too are influenced by macro-economic factors. Similarly government policies to encourage trade & business create a conducive environment for businesses. Such policies encourage entrepreneurs to invest which in turn leads to economic growth. You will also get to know the features of a good investment and the steps involved in the process of investment. 3.2 FACTORS INFLUENCING INVESTMENT DECISIONS 3.2.1 Factors driving investment decisions of individuals (bstudies.co.za, n.d.)The following factors are considered by individuals when making investment. Below is the list which we had discussed in our first chapter 1. Return on Investment (ROI) 2. Risk 3. Liquidity 4. Period of Investment 5. Taxation laws 6. Inflation Rate Apart from the above factors which we had already discussed the investor has to consider a. Volatility of the Markets: The investor needs to study the national and international economic trends. The higher the market volatility the greater will be the impact on returns and yields. This means a volatile market creates a greater risk for the investor. Low volatility shows that market or economy is stable which encourages investment b. Portfolio diversification: The investor has to decide how far he needs to minimise risk in his portfolio. In case he wants to minimise his risk he has to divide his investments between different alternatives which are available... c. Budget of the investor: An individual needs to make provision for emergencies and contingencies. He has to allocate certain percentage of his income to meet such situations. He can then decide on the amount to be saved and invested. Thus an individual investor after considering the basic factors discussed in 1 to 6 points above determines the level of investment to be made after considering the economic and business conditions. 22 CU IDOL SELF LEARNING MATERIAL (SLM)

3.2.2 Factors influencing investment decisions of firms/companies Expenditure like purchase of new machines, equipment, and purchase of automated machines requires heavy investment the benefits of which can be derived for more than one financial year. Hence such expenses are called capital expenditure. The following factors are considered by firms / companies when investing in capital goods a. Interest rate: Companies employ own funds as well as borrowed funds for such investment. If the interest rates are high the rate of return on such huge projects should be higher than cost of borrowings i.e. it should be at least equal to the interest rate or more. When own funds are used to finance such investments higher interest rates would mean the opportunity cost is higher since higher returns can be earned by investing in banks. b. Economic Cycle: During times of inflation and boom there is more demand from the consumer, hence investment by businesses increase to meet the expected demand. Conversely as recession sets investment falls. Thus the rate of economic growth decides the investment to be made by entrepreneurs. Higher investment by entrepreneurs creates employment opportunities which in turn creates demand encouraging further investment. Thus the phase of economic cycle is an important determinant for investment. c. Confidence: The level of confidence in the market is affected by factors such as economic growth, interest rates, political stability and general economic stability. Businesses would be interested in making huge investment only if they are sure about expected demand, costs that will be required to be incurred in future and viability of the project For example we have seen that after the covid pandemic hit last year the confidence in the markets came down drastically which led to a contraction in economic growth rate in India by (livemint.com, 2021)7.3% in terms of GDP for financial year 2020-21. (GDP- Gross Domestic Product is a measure of market value of all finished goods and services produced within a country during a specific year) (Hindustan Times, 2021)The Reserve Bank of India expects the impact of the pandemic to have a small impact and has projected the GDP growth to be faster during the current financial year. The confidence level has improved this financial post vaccination drives. This in turn induces investment. 23 CU IDOL SELF LEARNING MATERIAL (SLM)

d. Technological changes: Whenever there are changes in technology in the long run it attracts further investment since it assures higher returns. For e .g the education industry has got transformed due to an e-learning boom since it has changed the way of educating from the traditional classroom method. The rising trend is expected to stay so investment in e-learning platforms is expected to continue. e. Labour Costs: During periods of low growth rate of wages companies will prefer investing in labour intensive production methods. However where cost of wages are rising businesses would be interested in investing in capital goods which will increase productivity of labour. Hence higher wage rates induces greater capital investment to improve labour productivity. f. Replacement of plant & equipment: With the passage of time plant & machinery and equipment tend to wear out and get outdated. It is therefore necessary to make investment to replace them. Investment is also necessary to maintain a standard growth. Though during the recessionary phase investment falls some firms may still wish to continue to invest in start-up or less ambitious projects. g. Level of competition: A new investment by a new entrant may prompt competitors to invest in other counterparts in the technology or product to catch up with the new entrant. This reduces the earnings of the new entrant. If the competition is high it attracts further investment by competitors. (saylordotorg, n.d.)For example when Amazon entered the cloud-computing market in 2006 by introducing Amazon web services many other companies responded by investing more and more money in cloudcomputing. Dell as a competitor invested more than a billion dollars in cloud computing h. Government policies: When government policies change by way of subsidies and tax exemption it encourages investment. As per the income tax laws in our country government encourages investment in Special Economic Zones (SEZ) to promote development of a particular area by giving tax exemptions. 3.3 FEATURES OF A GOOD INVESTMENT (commercemates.com, n.d.)In the case of an individual investor the following should be the features of an investment plan 1. Safety of principal 24 CU IDOL SELF LEARNING MATERIAL (SLM)

2. Liquidity 3. Capital appreciation: Every investor expects the value of his investment to appreciate over a period of time. He needs to forecast such appreciation before timing his purchases 4. Purchasing Power stability of future funds. In other words investment should increase in value over time in accordance with rise in price levels 5. Expectation of Return: Every investor expects a stable and regular return 6. (Chandra, Investment Analysis and Portfolio Management, 2009, p. 9) Tax implications: Tax benefits can be  Initial taxbenefits: where at the time of making investment the investor can claim benefit under section 80 C of Income tax Act  Continuing tax benefits: where the income on investments is exempt in the hands of investor.  Terminal tax benefits: where tax benefit is given at the time investment is liquidated 7. Legal aspects: Investment should be done only on such securities which are legal. Illegal securities will land the investor in trouble 3.4 PROCESS OF INVESTMENT (investmentpedia.org, n.d.)The process of investment includes certain steps to be applied consistently to create a suitable portfolio to meet the investor’s specified goals: 1. Identify objectives and constraints: The investor needs to identify the desired outcome of the investment regarding risk and returns. He also needs to identify the limitations of his decisions i.e. the constraints in terms of time horizon, liquidity, tax implications etc. Thus he specifies objectives and constraints at this stage. 25 CU IDOL SELF LEARNING MATERIAL (SLM)

2. Decision on asset mix: This step involves decision on how to allocate investment across different asset classes i.e. equity, bonds, real estate etc. The decision about the appropriate mix of different assets is done taking into account the macroeconomic and market conditions. 3. Formulating portfolio strategy: The investor selects an appropriate portfolio strategy at this stage. There are two types of portfolio strategy a. Active strategy b. Passive strategy Under Active strategy the objective is to get greater returns than the market return compared to a benchmark like Nifty, Sensex etc. The investor or fund manager is proactive by choosing the appropriate market timing, sector allocation or security selection thus ensuring purchase of undervalued securities or short-selling securities. Under Passive strategy the investor holds a diversified portfolio. The returns generated are equal to the market and the risk level is pre-determined. 4. Selection of assets: The investor has to select the assets to be placed in the portfolio management process. While selecting stocks he uses fundamental/technical analysis to decide. While selecting fixed income securities he consider factors such as credit rating, liquidity, yield to maturity, tax benefits and so on. 5. Portfolio Execution: This step involves implementing the portfolio plan by buying and selling securities in some amounts. This is an important practical step in the investment process 6. Re-balancing of portfolio: The value of the portfolio and its composition (equity and debt) keeps changing as there are changes in the market prices. This change is mainly because of stock price fluctuations. It therefore becomes inevitable to keep changing the portfolio mix from stocks to bonds and `vice-versa. Sector-wise reallocation and security switches are done to restructure the portfolio. 26 CU IDOL SELF LEARNING MATERIAL (SLM)

7. Portfolio Evaluation: This is the final step in the investment process wherein the portfolio management performance is evaluated. Return and Risk are the key issues which are evaluated. It is seen whether returns are commensurate with the risk exposure. 3.5 SUMMARY We have understood that an individual investor’s decision on investment is determined by factors such as risk, return, and safety of principal, stability of income and capital appreciation. The factors imposing restrictions are liquidity, time period, tax laws, and general economic and business conditions. He allocates funds for investment after making provision for emergencies and contingencies Investment decisions by entrepreneurs in capital goods involves consideration of factors such as  Interest rates  Current economic cycle  Confidence level  Technological change  Labour Cost  Need for replacement  Government policy The features of a good investment include safety, capital appreciation, marketability, purchasing power stability, tax benefits and legality. The process of investment involves  Identifying the objectives & constraints  Deciding on the asset mix  Formulating a portfolio strategy  Selecting the assets  Portfolio execution  Re-balancing the portfolio  Periodic evaluation of portfolio 27 CU IDOL SELF LEARNING MATERIAL (SLM)

3.6 KEYWORDS  Economic Cycle: It is the fluctuation of the economy between periods of growth and recession. Also referred as business cycle.  Investment Objectives: Goal of the investment  Portfolio strategy: A roadmap using which investors can build and monitor their investment to meet long- term financial goals. It includes active strategy and passive strategy.  Labour intensive technology: where labour intensive methods are used for production since labour is cheap.  Re-balancing the portfolio: Changing the asset mix of equity and bonds by periodic buying or selling the assets to maintain desired level of asset allocation and risk.  Portfolio diversification: Investing money in different assets and securities. 3.7 LEARNING ACTIVITY 1. What do you understand by the portfolio strategy? ___________________________________________________________________________ ___________________________________________________ 2. Mention factors to be considered by an individual investor while making investment ___________________________________________________________________________ ___________________________________________________ 3.8 UNIT END QUESTIONS A. Descriptive Questions Short Questions 1. What do you understand by the term business cycle? 2. How does inflation influence investment decisions? 3. What are the characteristics of a good investment? 4. How can an investor minimise risk in his portfolio? Explain 5. What are the limitations imposed on the investor when investing? Long Questions 28 CU IDOL SELF LEARNING MATERIAL (SLM)

1. What are capital goods? Give examples. Explain various factors to be analysed before making capital investment 2. What are the different tax implications to be considered by an individual investor? 3. Explain how technological change impacts capital investment 4. Explain the different stages in the process of investment 5. List down the factors you will take into account before investing in stock market? B. Multiple Choice Questions 1. Higher rate of economic growth ______________ investment a. Increases b. decreases c. brings no change d. is inversely related to 2. Portfolio diversification ____________ risk. a. increases b. minimises c. does not reduces d. brings no change in 3. When wage rates are high businesses ________________in capital goods. a. make no change b. invest less c. invest more d. invest proportionately 4. Greater competition in a particular sector in the market ___________ investment 29 CU IDOL SELF LEARNING MATERIAL (SLM)

a. induces less b. induces more c. does not change d. makes inverse change in 5. When tax rates by government are __________ for businesses it induces investment a. marginal b. high c. favourable d. average Answers 1–a, 2–b, 3–c, 4–b, 5-c 3.9REFERENCES Textbook  (Investment Analysis and Portfolio Management, 2009)  (Bhalla, 2011) Website  (dynamictutorialsandservices, n.d.)  (efinancemanagement.com, n.d.)  (investmentpedia.org, n.d.) 30 CU IDOL SELF LEARNING MATERIAL (SLM)

UNIT 4 INVESTMENT AVENUES 31 STRUCTURE 4.0 Learning Objectives 4.1 Introduction 4.2 Classification of investors 4.3 Investment Alternatives 4.3.1 Equity Shares 4.3.2 Preference Shares 4.3.3 Bonds 4.3.4 Public Issue 4.3.5 Private Placement 4.3.6 Rights Issue 4.4 Summary 4.5 Keywords 4.6 Learning Activity 4.7 Unit End Questions 4.8 References 4.0 LEARNING OBJECTIVES After studying this unit you will be able to  Describe various types of investors  Identify the different sources available for companies to raise funds  Identify the difference between public issue and private placement  Explain the different sources available for investment  Explain the different types of shares and bonds CU IDOL SELF LEARNING MATERIAL (SLM)

4.1 INTRODUCTION We have all heard about stock issues in the market. After our discussion you will understand the different types of investors who invest depending upon the goals to be achieved. There are different instruments available in the market e.g. equity shares, preference shares, bonds e t c. Investors invest in these instruments depending upon their objective whether to maximise returns or to ensure safety of their funds. Each security gives certain rights to the holder. In short you will become familiar with different types of shares and different types of bonds. We hear about issues made in the stock market through media where companies raise funds from public either to start a new project, for expansion, to pay off debts e. t. c. From this chapter you will come to know the ways in which an unlisted public company can raise funds and how listed public company can raise funds. You will understand different types of issues made by corporates whether it is a new issue, further issue or rights given to existing shareholders to subscribe to shares. You will learn how government undertakes disinvestment programmes in public sector undertakings to raise finance and improve efficiency of such undertakings. After finishing with this chapter you will become familiar with different alternatives where an investor can invest and also get a clear idea about the various terms used in stock market. 4.2 CLASSIFICATION OF INVESTORS There are basically two types of investors  Individual Investors  Institutional Investors 1. Individual investors: They invest in securities and assets in small quantities on their own. They invest to take care of education needs of children, purchase of a house or for their retirement. They invest for meeting short-term or long-term goals. The purpose of investment for some may be for capital growth or appreciation while for some it may be to produce income-producing assets. The structuring of their portfolio is dependent on their financial circumstances and financial obligations 2. (analystprep.com, n.d.)Institutional Investors: There are different types of institutional investors. These are 32 CU IDOL SELF LEARNING MATERIAL (SLM)

 Pension funds  Endowments & Foundation  Banks  Insurance companies  Investment funds  Sovereign Wealth Funds (SWF)  They all have different objectives while investing. a. Pension funds: A pension fund is a fund that collects funds from employees; invest large amounts of money to pay out pension to them when they retire at the end of their employment period. We can say that a pool of money is a pension fund which is paid out to employees when they retire. Such funds invest money to multiply it so that they can provide more benefit to the employees. Under a pension plan both employers and employees contribute capital to a pool of funds. These funds are invested to generate returns which serve as income to the employees upon retirement. The main aim is portfolio diversification and prudence. They invest in different instruments such as stocks, bonds, derivatives e t c. Earlier pension funds used to invest only in government backed securities such as bonds and blue-chip stocks. Over the years since there is a need for a relatively high rate of return they have been allowed to invest in different asset classes. They have started investing in exchange-traded funds, index funds or alternative investments such as precious metals, hedge funds, real estate. b. Endowments and Foundation: The main objective of an endowment is to hedge the capital value of the fund from inflation till perpetuity and provide income to its beneficiaries. They are held by non-profit organisations such as hospitals, school e t c. Their main source of funds is donations which can be general or specific. These funds cater to the day-to day needs as well as specific needs of the organisation. These organisations use only the investment income the principal remains untouched. The principal amount is allowed to be withdrawn after a particular period for some funds while in other cases it is not allowed to be withdrawn at all. c. Banks: Banks hold deposits and make loans. Whenever there are excess reserves they invest in conservative assets and for short periods i.e. in money market instruments. 33 CU IDOL SELF LEARNING MATERIAL (SLM)

This gives them liquidity as well as earn returns higher than the rate they have to pay on their deposits. d. Insurance Companies: They receive premiums from insurance policies they write. They need to invest these premiums so that sufficient funds are available to pay for the insurance claims that arise. These investments are conservative in nature as they invest in bonds (since they are safe investments giving predictable cash flow ) but may also invest a portion of their premiums in stock market for higher returns without taking full risk of volatile returns. e. Investment Companies: They collect funds by issuing and selling shares to investors. Investors are retail and institutional. It is a financial services firm which holds securities of other companies for investment purposes. There are basically two types of investment companies close-end and open-end companies. Close-end companies issue a limited amount of shares that are traded in stock exchange. Open-end companies issue new shares every time an investor wants to buy its stocks e.g. open-end mutual funds issue new units each time the investor wants to buy its units. Mutual funds are an efficient way to get access to a diversified portfolio for an individual investor. The portfolio is structured and maintained as per the objective in the prospectus. f. (investopedia.com, n.d.)Sovereign Wealth Funds (SWF): It is a state owned fund, which invests in financial instruments such as stocks, real estate, bonds, and precious metals. They also invest in alternative assets. They are funded by foreign exchange reserves of the central bank. The source of funds are from trade surpluses and foreign monetary reserves. 4.3. INVESTMENT ALTERNATIVES 4.3.1 Equity Shares A share is defined as one of the units into which the share capital of a company has been divided. The person who holds the share is known as shareholder. He receives dividend from the company as a consideration for investing his money into the company. Equity Shareholders are the owners of the company. They do not carry any preferential right for the purposes of receiving dividend and repayment of capital in the event of winding up of the 34 CU IDOL SELF LEARNING MATERIAL (SLM)

company. The rate of dividend on these shares is not fixed. It depends upon the availability of divisible profits and the intention of the directors. These shares have the chance of earning good dividends in times of prosperity but at the same time stand chance of earning nothing in times of adversity. The equity shareholders control the company by exercising the voting rights at the general meetings of the company. Equity shareholders are the owners of the company. They authorise the Board of Directors to undertake transactions on behalf of the company by approving them in the general meeting either through ordinary resolution or special resolution depending upon the matter to be approved. Equity Shareholders have the rights to convene general meeting of the company, receive dividend, attend and vote at general meeting, make amendments to Memorandum of Association or Articles of Association of the company, transfer shares, right to elect and remove directors, right to appoint auditors and fix their remuneration etc. Note: Memorandum of Association forms the constitution of the company and defines the scope of its activities. Articles of Association contain internal rules and bye-laws which regulate its operations and functioning. These shares are preferred by persons who are ready to take risks for better returns and also have a say in the management of the company. 4.3.2 Preference Shares: They carry a preferential right over other classes of shares.  A preferential right in respect of a fixed dividend. It may consist of a fixed amount or a fixed rate.  A preferential right as to repayment of capital in the case of winding up of a company in priority to other classes of shares. Preference Shares may be  Cumulative or Non-cumulative  Participating or Non-participating 35 CU IDOL SELF LEARNING MATERIAL (SLM)

In the case of cumulative preference shares their dividend goes on accumulating unless paid. The accumulated arrears of dividend shall be paid before payment is made to equity shareholders. In the case of non-cumulative preference shares the right to claim dividend lapses if there are no profits in a particular year. In the case of participating preference shares they get a share out of the surplus profits remaining after paying dividend to the equity shareholders at a fixed rate as determined by the company’s Articles apart from receiving dividend at a fixed rate. Non-participating preference shares do not have such rights. Preference shares are particularly useful to those investors who want comparatively higher rate of return with comparatively lower risk. 4.3.3 Bonds: Bonds are a category of debt which are highly secured raised by organisations from investors for a specified term. Investors are entitled to a fixed or variable rate of interest. These organisations include companies, government, municipalities and other entities. Investors pay the entire face value of the bond which is returned after the expiry of a fixed tenure. They can be classified based on their return as fixed interest bonds, floating interest bonds, inflation linked bonds and perpetual bonds.  Fixed interest bonds: They give a consistent interest payment to the investors as the coupon rates are fixed for the entire tenure. The investors thus can predict the return on their investments irrespective of changes in market conditions.  Floating interest bonds: These bonds carry coupon rates which are subject to market fluctuations and keep changing within the tenure of the bond. The return on investment for the investors is inconsistent as it is determined by market factors such as inflation, condition of economy and monetary policy.  Inflation linked bonds: These are special debt instruments to compensate the investors for the impact of economic inflation. The coupon rates are lower than fixed interest bonds. It reduces the negative consequence of inflation by bringing changes in coupon rates prevailing in the debt market.  Perpetual bonds: These bonds do not have any maturity period as the issuers do not have to return the principal amount to the investor. These instruments give steady interest payment to the investors. 36 CU IDOL SELF LEARNING MATERIAL (SLM)

We have other types of bonds as well like zero coupon bonds, convertible bonds and deep discount bonds  Zero coupon bonds: As the name suggests they do not have any interest rates. They are sold at a discount from their maturity values. The difference between the discounted value and the maturity or face values represents the interest that will be earned by the investor.  Convertible bonds: These bonds give the holder the option to convert it into a predetermined number of shares in the issuing company. The interest rates on these bonds are slightly lower than regular corporate bonds. Investors accept a lower coupon rate than other regular bonds since it offers conversion features. Companies (issuer of bonds) thus can save a substantial amount in terms of interest expenses.  Deep discount bonds: These bonds are issued at a discount than its face value or trades at a lower value than its par value. These are similar to zero coupon bonds since they are issued at a discount. For e.g. a bond having face value ₹ 1000 may be issued at ₹ 994 in case of zero coupon bond whereas in case of deep discount bonds they may be issued at ₹ 600 hence the name deep discount. Zero coupon bonds do not pay interest till maturity whereas interest may or may not be paid in case of deep discount bonds. 4.3.4 Public Issue Public issue is one of the most important ways of raising funds from a large group of investors. The company making a public issue invites offers from the public by issuing prospectus. Investors who are interested pay share application money to purchase shares of the company. The issue is made in the primary market inviting subscription from the general public. Public Issue may be of three types  Initial Public Offer  Further Public Offer  Offer for sale Initial Public Offer (IPO): An unlisted public company can raise funds through IPO in the primary market. IPO is the first time when an unlisted company raises funds from public which may bring a turnaround in its business. However there is always a risk involved in it. 37 CU IDOL SELF LEARNING MATERIAL (SLM)

Further Public Offer (FPO): When an existing listed company wants to have access to more public funds FPO is done. It is done with a view to increase its capital. Here the risk involved is less since investors are already aware of its performance and growth opportunities. Offer for Sale (OFS): Offer for Sale is when the promoters of a listed company sell their shares to the general public. (samco.in, n.d.)OFS is relatively new for Indian investors. This was due to a new guideline issued by Securities and Exchange Board of India (SEBI) in 2012 which requires promoters to hold only up to 75% stake in listed companies. OFS is popular among public sector units. It helps government to undertake disinvestment giving access to more funds and improving the efficiency of public sector units. Nowadays even shareholders holding more than 10% share capital can offer their shares for sale. 4.3.5 Private Placement (investopedia.com, n.d.) Private Placement is the sale of stock, shares and bonds to pre- selected investors and institutions. It is an alternative to IPO to raise funds for expansion. Private placement can be done by a private company or an existing public company whose shares are publicly traded. In the case of listed public company making an offer for sale the existing shareholders face dilution in their earnings. However they benefit in the long run if the funds are utilised effectively to increase revenue and earnings. The investors in private placement are institutional investors, pension funds, banks or high net worth individuals. Private placement requires minimum legal compliance, it does not require prospectus to be issued or detailed financial information to be given. In India companies are required to comply with Section 42 of Companies Act 2013 for making private placement of shares. 4.3.6 Rights Issue Rights Issue is the right given to existing shareholders to buy additional shares in the company. These shares are usually issued at a discount which can be exercised by the When a company needs funds to finance its expansion this is a quicker method of raising funds. This process enable companies to raise funds without incurring underwriting fees. The number of shares that can be subscribed by the existing shareholders is in proportion to their shareholding. Companies can raise funds through rights issue whenever they find debt expensive or unavailable for them. It helps to avoid fixed interest payments. It improves the debt equity ratio of the company. 38 CU IDOL SELF LEARNING MATERIAL (SLM)

4.4 SUMMARY We now have understood that an individual investor can participate in the stock market by investing either in equity shares or preference shares or bonds. Public issue can be done by companies through Initial Public Offer (IPO) or Further Public Offer (FPO) or Offer for Sale (OFS). Existing shareholders can invest when rights issue is done by companies. It offers the benefit of lower prices. Companies can also raise funds through private placement where the issue is made to pre-selected investors. Institutional investors provide huge funds to companies. They invest depending upon the purpose for which they have been formed. The different types of institutional investors are  Pension funds: A pension fund is a fund that collects funds from employees; invest large amounts of money to pay out pension to them when they retire at the end of their employment period.  Endowment & foundation: They protect the capital value of fund from inflation and provide income to beneficiaries  Banks: They accept deposits and give loans. They have to follow RBI guidelines regarding deposits and loans,  Insurance companies: They charge premium from policy holders and provide protection plus saving benefits.  Investment companies: It is a trust or a corporation engaged in the business of investing money collected from a number of individual and institutional investors  Sovereign Wealth Funds: It is an investment fund which is state owned. They are formed with the intent to protect the economy at times when the revenues are volatile 4.5 KEYWORDS  IPO: Initial Public Offer. It is made by an unlisted public company when it wishes to raise funds from the public.  FPO: Further Public Offer. It is made by an existing listed company when it wants to raise additional funds. 39 CU IDOL SELF LEARNING MATERIAL (SLM)

 Private Placement: It is done by the company to pre-selected investors and institutions. It requires minimum legal compliance by companies.  Rights Issue: It is the issue of shares to existing shareholders in proportion to their shareholdings. It is usually issued at a discount to market price. 4.6 LEARNING ACTIVITY 1. State the difference between shares and bonds. What are deep discount bonds? ___________________________________________________________________________ ___________________________________________________ 2. What is a public issue? ___________________________________________________________________________ ___________________________________________________ 4.7 UNIT END QUESTIONS A. Descriptive Questions Short Questions 1. How can an unlisted public company raise funds? 2. List down different types of institutional investors. 3. Define Bonds. 4. Explain the term rights issue 5. Define Private placement Long Questions 1. Define Equity Shares. What are the rights of equity shareholders? 2. Explain different types of bonds 3. Explain three types of institutional investors 4. Explain the difference between public issue and private placement 5. Do you think investing in equity shares is riskier than investing in bonds? Give reasons. 40 CU IDOL SELF LEARNING MATERIAL (SLM)

B. Multiple Choice Questions 41 1. Endowment funds are _____________ investors a. Individual b. Institutional c. Domestic d. foreign 2. Private placement requires ___________ legal compliance a. no b. Maximum c. minimum d. very less 3. Preference Shares carry ______________ right to receive dividends. a. maximum b. preferential c. no d. minimum 4. _______ bonds do not pay interest till maturity. a. Floating rate b. Deep discount c. Inflation linked d. Zero 5. ___________fund is a state-owned fund CU IDOL SELF LEARNING MATERIAL (SLM)

a. Mutual b. Endowment fund c. Sovereign wealth d. Pension Answers 1–b, 2–c, 3–b, 4–d, 5-c 4.8 REFERENCES Textbook  (Investment Analysis and Portfolio Management, 2009) Website:  https://analystprep.com  https://www.investopedia.com 42 CU IDOL SELF LEARNING MATERIAL (SLM)

UNIT 5 INVESTMENT AVENUES STRUCTURE 5.0 Learning Objectives 5.1 Introduction 5.2 Various types of avenues 5.2.1 Government securities 5.2.2 Post Office deposits 5.2.3 Real Estate 5.2.4 Venture Capital 5.2.5 Mutual fund 5.2.6 Precious metals 5.2.7 Life insurance 5.2.8 Derivatives 5.3 Summary 5.4 Keywords 5.5 Learning Activity 5.6 Unit End Questions 5.7 References 5.0 LEARNING OBJECTIVES In this chapter we will be learning other avenues available for investment as a continuation of the last chapter. You will understand  Traditional sources of investment like real estate, precious metals,  Secure and risk free investments such as government securities, post office deposits, and life insurance which gives protection and savings benefits  Investments by venture capitalists, in mutual funds and derivatives 43 CU IDOL SELF LEARNING MATERIAL (SLM)

5.1 INTRODUCTION In the previous chapter we had learnt about different types of issues in the market. We had understood different types of investors and some sources available for investment. In this chapter we will study about some traditional sources which have been popular for years specially investment in precious metals and real estate. Such investments were preferred by our forefathers due to individual preferences, custom & tradition. It was considered as security which could be fallen back upon during adverse times as they were easily marketable. Over the years investors have started moving their investment from gold and property to investment in life insurance since it provides protection to family members as well as takes care of future income needs. You will understand the different types of life insurance policies available for investors. Investors who want to access the stock markets without taking much risk have found investments in mutual fund feasible. Mutual funds provides the benefit of investing with small investments and yet have access to diversified portfolio. They offer different types of funds, so investors can choose the type which will meet their objective whether it is tax savings or building up a corpus for future. The type of instruments which have become popular off late with investors are derivatives. These instruments are preferred by investors who are ready to bear more risk than conservative investors. After studying this chapter you will understand the term derivatives and its types. 5.2 VARIOUS TYPES OF AVENUES 5.2.1 Government securities: (scripbox.com, n.d.)Government securities are also called government bonds. These are debt instruments that are issued by the central and state governments. The aim is to raise funds through investors to be able to meet capital expenditures. Investors are creditors to the government. The government pays interest at an agreed rate at regular intervals. This money is used by the government to fund projects on infrastructure, education e t c. There are two types of government securities. 44 CU IDOL SELF LEARNING MATERIAL (SLM)

a. (angelbroking.com, n.d.)Treasury Bills (short term G-secs): These are issued by the Central government with three maturity periods 91, 182 or 364 days. They do not pay interest but are issued at a discount and redeemed at their face value or actual value on maturity b. Dated securities (long terms G-secs): These securities including bonds are issued by the State Government and so are referred as State Development Loans (SDL). They have longer maturity periods and pay interest twice a year. Long-term bonds have a maturity period ranging from 5 years to 50 years. This kind of investment carries no risk as it offers fixed interest rate and is guaranteed by the government. Till 2001 only banks, mutual funds and financial institutions were allowed to buy government bonds. After that it has become open to individuals, corporate or any institution permitted by the Reserve Bank of India (RBI). (edelweissmf.com, n.d.) Government bonds carry less risk compared to equities as the returns are guaranteed by the government. An investor can derive maximum yield by holding till maturity. However retail investors face liquidity issue since they cannot sell it to banks and financial institutions. (Banks & financial institutions invest in larger quantities) The secondary market for government bonds is not fully developed which reduces liquidity for the investor. However an investor with a long investment period will not face this issue. 5.2.2 Post Office deposits: (cleartax.in, n.d.)India Post is the most widely distributed post network in the world. It has grown its business apart from mail service to different areas such as small savings schemes, life insurance, mutual funds, electronic money order and money transfer services. The various savings schemes under post office savings scheme are a. Post office savings account: The minimum amount of deposit is ₹ 500. It can be opened in single or joint ownership by domestic customers. Interest rate of 4% p.a. is applicable currently, b. Post office time deposit account: There are 4 tenures available for the investor 1 year, 2 years, 3 years and 5 years. The rate of interest is slightly higher than commercial banks. The minimum amount of deposit ₹ 1000. The rate of interest is 5.5% p. a. for a tenure up to 3 years and 6.7% p. a. for a tenure of 5 years. The interest is calculated quarterly and payable annually. 45 CU IDOL SELF LEARNING MATERIAL (SLM)

c. Post Office Monthly Income Scheme (MIS): It is meant to provide regular monthly income for the depositor. The minimum deposit required is ₹ 1000, up to 4.5 lakh for a single account and up to 9 lakh for a joint account. An interest rate of 6.6% p. a. can be earned though this account. The investor cannot prematurely close it before 1 year. The lock-in period for Post Office MIS is 5 years. The investor earns guaranteed returns, thus it is a low risk investment. However they do not give hedge against inflation. There is no tax deduction at source. d. (cleartax.in, n.d.)National Savings Certificate: It is a fixed income scheme that one can open with a post office branch. It encourages small to mid-income investors to invest while saving on tax. This option is a low-risk, fixed-income product. There is no maximum limit on the purchase of NSCs but an investor can avail tax deduction of up to ₹ 1.5 lakh under section 80C of the Income Tax Act. These certificates’ current rate of interest is 6.8% p. a. The interest rate is revised on a regular basis by the government. The scheme is open only for individual Indian resident citizens e. Kisan Vikas Patra: It is a small saving certificate scheme which was introduced in 1988. The main object is to encourage financial discipline in people. The tenure for the scheme is 124 months (10years 4 months). The minimum investment amount is 1000 and there is no upper limit. A lump sum amount invested today gets doubled at the end of 124th month. Initially it was available for farmers, now it is available for all. It is a low-risk savings scheme. 5.2.3 Real Estate: Some investors prefer investing in real estate since it is tangible and allows scope for diversification. Investing in real estate may be in the following forms  Residential property  Commercial property  Agricultural land  Urban and semi-urban land  Time-share in a holiday resort Real estate investors benefit by collecting rent and through appreciation as the value goes up after some years. Real Estate Investment Trusts (REIT) are a way of investing in real estate. 46 CU IDOL SELF LEARNING MATERIAL (SLM)

REIT are just like mutual funds where funds are collected from multiple investors for which units are issued to them. These units are bought and sold like stock. The investments are done in real estate holdings or loans secured by real estate. 5.2.4 Venture Capital (inc42.com, n.d.) Venture Capital is a form of financing available for start-ups with a long term growth perspective. Wealthy individuals and institutional investors like to invest their capital on emerging companies with long term growth potential. The capital invested by such investors are called venture capital and these investors are called venture capitalists. Such investments are risky as they are illiquid but at the same time can give impressive returns if invested in the right venture. Example of Venture Capital firms in India are Accel Partners which focusses on internet technology companies and has funded start-ups like Flipkart,Book my show, Myntra etc. Nexus Venture partners which invests in companies like mobile, data security, energy, media and consumer businesses. It has funded start-ups like Snapdeal, Delhivery Housing etc. 5.2.5 Mutual fund A mutual fund is a financial vehicle which collects money from many investors to invest in securities like stocks, bonds, money market instruments and other assets. Mutual funds help small investors to have access to professionally managed portfolios of bonds, equities and other securities. They charge annual fees called expense ratios for managing the funds. Mutual fund schemes invest in three broad categories of financial assets stock, bonds and cash. Stock refers to equity and equity related instruments. Bonds refer to debt having maturity of more than a year. Cash represents bank deposits and debt having maturity of less than one year. Based on the asset mix mutual funds can be categorised as  Equity schemes  Hybrid schemes  -Debt schemes Equity schemes invest 85-95percent of their funds in equity and balance in cash Hybrid schemes invest in a mix of stock and debt instruments Debt schemes invest in debt and cash 47 CU IDOL SELF LEARNING MATERIAL (SLM)

The common terms used in connection with mutual fund operation are sponsor, trustees, mutual fund, Asset Management Company (AMC) custodian, and registrar and transfer agents (Investment Analysis and Portfolio Management, 2009) In India mutual funds are regulated by Securities and Exchange Board of India (SEBI) (Mutual fund Regulations) Regulation 1996. As per these regulations a. A mutual fund shall be constituted as a trust executed by the sponsor in favour of the trustees b. The sponsor if authorised by the trust deed or the trustees shall appoint an asset management company. c. The mutual fund shall appoint a custodian d. No scheme shall be launched by the AMC unless it is approved by the trustees and a copy of the offer document is filed with SEBI. e. No guarantee of returns shall be provided under the scheme unless it is guaranteed by the sponsor or AMC. f. The mutual fund shall not borrow except to meet temporary needs. g. The Net Asset Value, sale and repurchase price of the mutual fund shall be regularly published in daily newspapers. h. Every AMC shall maintain proper books of accounts, records, documents and records for each scheme i. The investments are subject to certain restrictions with respect to exposure to stock of individual companies, debt instruments of individual issuers. j. The costs associated with such mutual fund with respect to initial expenses, entry load, exit load, annual recurring expenses are subject to ceiling. The advantages to invest in mutual fund are  Portfolio diversification is possible with least amount of investment  Professional managers manage the fund. Hence it is cost-effective for investors  Mutual funds need to disclose their NAV details in daily newspapers thus investors can easily invest 48 CU IDOL SELF LEARNING MATERIAL (SLM)

 Small investors can invest either in lump sum mode or Systematic Investment Plan (SIP) mode  Tax advantages under certain schemes reduces tax incidence for investors  It provides liquidity since units can be easily sold in stock exchange.  Since it is regulated by SEBI it provides transparency and protects investors’ interest. 5.2.6 Precious metals (investopedia.com, n.d.)Precious metals are recognised as a true source of wealth. People prefer to invest in gold, silver and platinum due to their personal choices, custom & tradition, as a mark of wealth. Precious metals like gold and silver continue to appeal investors as it is considered as a hedge against financial calamity. They can be easily exchanged and sold in the event investor needs cash. Gold is considered as a stable source of wealth when currencies are no longer perceived to have value. In the past many currencies were physically minted using precious metals or were backed by them. Nowadays investors purchase precious metals mainly as a financial asset. Investment in precious metals is done to diversify portfolios, as a hedge (protection) against inflation and where there is financial uncertainty. Businessmen invest since it is essential for making jewellery or electronic. The methods of investing in gold are purchase of gold coins or bars, purchase of jewellery, investing in publicly traded companies engaged in the exploration or production of precious metals, investing in mutual funds of exchange traded funds backed by bullion. 5.2.7 Life Insurance Investors purchase life insurance policy for the purpose of protection and investment. Protection is given in the form of protection to the policy holder or his dependents due to events such as death, sickness, disability. Policies are also designed as a savings plan to cater to specific individual needs such as children’s education, marriage, repayment of loan, income on retirement and so on. The common types of life insurance policies are Endowment Assurance plan with or without profits Money-back plan Unit-linked plan Term plan 49 CU IDOL SELF LEARNING MATERIAL (SLM)

Immediate Annuity Deferred Annuity 5.2.8 Financial Derivatives Financial derivatives are financial instruments the price of which is determined by the value of another asset. From the point of view of investors and portfolio managers futures and options are the two most important financial derivatives. Futures contract: A futures contract is a legal agreement between two parties to buy or sell something at a pre-determined price at a specified time in future. There are many types of futures contract in financial and commodity segments. Financial futures include stock, index, currency and interest futures. We have futures for various commodities like agricultural products, gold, oil e. t. c. The party which agrees to purchase the asset is said to be in a long position. The party which agrees to sell the asset is said to be in a short position. The party who has a long position benefits if price increases while the party who is in a short position if price decreases Let’s take a simple example of stock futures Mr A agreed to purchase 100 shares of Infosys at ₹1500 after three months from Mr B. Here Mr A has a long position while Mr B has a short position. After 3 months if the price of Infosys is ₹ 1800 Mr A’s profit would be 30000 (100 x (1800-5000)) whereas Mr B’s loss is 30000. Supposing the price of Infosys drops to 1100 then A’s loss would be 40000(100 (1500-1100)) whereas the profit of Mr B would be 40000. Option contract: An option contract gives the buyer of the option the right to buy or sell an underlying asset at an agreed upon price and date. The buyer of the option is called holder of the option while the seller of the option is called writer of the option. The holder has a right but no obligation to buy or sell. The right is exercised by him only if it is beneficial to him. Hence the risk here is less compared to futures contract. The holder of the option has to pay premium to the writer of the option for enjoying this right which is non-refundable. Therefore the risk is limited to the premium amount paid. There are two types of option – call option and put option. 50 CU IDOL SELF LEARNING MATERIAL (SLM)