Chapter 1 Investment Analysis and Portfolio Management An Overview

Meaning
Investment is the employment of funds with the aim of getting return on it. Reward for waiting for money.

Concepts of investment
Economic Investment : Addition to the capital stock of the society, where capital stock of the society is the goods which are used in the production of other goods. Eg Stock, Human Capital, etc

Concepts of investment
Financial Investment Allocation of resources with an expectation to yield some gain or return over a given period of time. Eg : Investment in shares, bonds, real estate, etc

Investment alternatives
1. Shares, debentures and bonds 2. Postal savings schemes 3. PF, PPF, and other tax sheltered savings schemes. 4. Investment in investment intermediaries. 5. Deposits in companies. 6. Life insurance investments

Investment alternatives
7. Investment in gold, silver, precious metals and antiques. 8. Investment in real estates. 9. Investments in Gilt edged securities eg: bonds of port trusts , treasury bills, etc.

Selection of Investment Avenues

1. 2. 3. 4. 5. 6. 7. Depends on Investment objectives Returns Tax benefits Loan facility Future marketability Risks Period of investment

Meaning of Portfolio Management

A spectrum of securities available to an individual as an investment option is called as portfolio. Portfolio management means selection of securities and constant shifting of portfolio. A person who manages the portfolio is called as portfolio manager.

Objectives of Portfolio Management

Maximize yields and minimize risks. Stability of income Capital growth Liquidity Safety Tax incentives

Portfolio Construction
Determining the actual composition of portfolio. Done to meet investors goals and objectives Focuses on maximization of returns and minimization of risks Done through diversification strategy.

Principles of portfolio construction

Safety principle Need for income Taxation Temperament

Evaluation of portfolio performance

Portfolio appraisal and revision 1. Appraisal Variability in returns of the securities is measured and compared. 2. Revision Depends on the results of the appraisal, securities with high risks are replaced with high yielding securities and low risks

Chapter 2 Investment Alternatives

Non Marketable Financial Assets: 1. 2. 3. 4. Post Office Saving Schemes ***** Public Provident Fund (PPF)***** Deposits with Banks***** HDFC Schemes*****

Post Office Saving Schemes

Sale of Govt Securities like Vikas Patras, National Saving Certificates (NSC) Saving Bank A/c Monthly income schemes Recurring deposits Time deposits Investment in Govt securities

Public Provident Fund (PPF)

1. 2. Tax sheltered investment scheme . Features of the scheme Can be opened at any branch 15 years period extendable afterwards for 5 yrs at a time 3. Deposit of money every month. 4. Tax exemption under IT Act (Sec 80 C)

Deposits with Banks

Current A/c Savings A/c Fixed deposits Recurring deposits

Fixed Income Securities

Bonds Debentures Preference shares

Variable Income securities

Equity Shares. 1. Meaning 2. Features/ characteristics

Mutual fund
A mutual fund is formed by the coming together of a number of investors who hand over their surplus funds to a professional organization to manage their funds. They mobilize the savings of gen public and invest them in stock market securities.

Open ended mutual funds

Open ended no fixed maturity period. Can be encashed at any time. Rate of conversion into cash will be market rate. 4. Uninterrupted entry and exit 5. Not listed on stock exchanges 6. Liquidity 1. 2. 3.

Close ended mutual funds

Fixed maturity Listed on stock exchange Buying and selling through stock exchange Demand supply factors affects the price of the units.

Interval funds
Features of open and close ended mutual funds Listed on stock exchanges Available for repurchase during specific periods

Schemes of Mutual funds

Equity Scheme Hybrid Scheme Debt Scheme

Net Asset Value (NAV)

NAV per unit is the net value of the assets( ie total assets minus total liabilities) divided by the outstanding number of units.

Mutual funds are required to announce the NAV per unit for each open ended scheme

Chapter 3 Securities Market or Primary Market

Stocks available for the first time are offered through New Issue Market or Securities market. Primary market is a market for raising fresh capital in the form of shares and debentures. It is also known as the capital market.

Primary markets
The primary market is a market for new issues. It is also called the new issues market. It is a market for fresh capital.

Funds are mobilized in the primary market through public issue, rights issues, and private placement.

Types of Public issues

Initial Public Offer ( IPO) Follow On Public Offer ( FPO)

Primary markets - Right issue

An offer of sale of securities existing to shareholders. If a company wants to increase its capital by further allotment of shares ,should offer shares at first to its existing shareholders in proportion to the shares held by them at the time of offer.

Primary markets- Private Placement

(a) private placement (unlisted companies ). Direct sale of securities to some selected group of persons under sec 81 of the companies act (b) Preferential issue allotment of shares to some selected group of persons under sec 81 of the companies act. (c) Qualified institutions placement for listed company . Eg: UTI,Mutual Funds, Commercial Banks etc.

Primary markets- Offer for sale

Company sells securities through the intermediaries such as issue houses and stock brokers. Price and other terms and conditions can be negotiated Securities are re-sold to the general investors in the stock market Object is to save time, cost and get rid

Primary markets- Bonus shares

They are the shares allotted by capitalisation of the reserves or surplus of a company, Issued to the Equity shareholders on the basis of the proportion of shares held by them.

Primary markets- Bonus shares SEBI Guidelines

1. Issue should be made out of free reserves. 2. Issue is made only on fully paid up share capital 3. AOA contains a provision for capitalisation of free reserves. 4. After announcing implementation should be done within 6 months from the date of approval.

Primary markets- Bonus shares SEBI Guidelines

5. Declaration of bonus in lieu of dividend is not permitted. 6. No default in payment of interest on debentures or fixed deposits or statutory dues of the employees. 7. Certificate signed by the statutory auditor or by a company secretary about the terms and conditions complied with.

Primary markets- Initial Public Offer

Initial Public Offerings (IPO's)/Offer for Sale By Unlisted Companies An IPO is the process through which an unlisted company issues shares of stock to the public for the first time.

Primary markets- Initial Public Offer

Regulators 1. Ministry of Corporate Affairs through the Registrar of Companies (ROC). 2. SEBI 3. Stock exchanges 4. RBI ***( In case of IPO to NRIs)

SEBI Guidelines 2000

Defines IPO as an invitation by a company to public to subscribe to the securities offered through a prospectus. It covers IPOs , Follow On Public Offer (FPO), Right Issue, public offer of debt instruments, issue of bonus shares, issue of Indian Depository Receipts (IDRs).

Primary requirements of Eligibility to make an IPO

It has net tangible assets (i.e. three total net assets, excluding intangible assets) of at least Rs 3 crore in each of the preceding 3 full years (of 12 months each) Out of which not more than 50 per cent should be in monetary assets; if more than 50 per cent of the net tangible assets are held in monetary assets the company should have firm commitments to deploy the excess in its business/ project

Primary requirements of Eligibility to make an IPO

It has a track record of distributable profits in terms of Section 205 of the companies act for at least 3 out of the immediately 5 years,

It has a net worth [i.e. the aggregate value of paid-up equity capital and free reserves as per the audited balance sheet of at least Rs 1 crore in each of

Conditions for an IPO

In case of change of its name within the last one year, at least 50 per cent of the revenue for the preceding one full year is earned by the company from the activity suggested by the new name .

Conditions for an IPO

The aggregate of the proposed issue and all previous issues made in the same financial year in terms of size does not exceed five times its pre-issue net worth as per the audited balance sheet of the last financial year.

Secondary requirements of eligibility to make an IPO

If an unlisted company is unable to satisfy one or more of the primary requirements of eligibility the secondary requirements come into play.

Secondary requirements of eligibility to make an IPO

1. The issue is made through the Book building process, with atleast half of net offer being allotted to QIBs ie Qualified Institutional Buyers , failing which the full subscription money shall be refunded. (OR ) 1. The project has atleast 15 % participation by Financial institutions or scheduled commercial banks of which 10% comes from the appraisers. Also 10% of the issue size being allotted

Secondary requirements of eligibility to make an IPO

2) The minimum post issue face value capital of the company is Rs 10 crores. (OR) 2)The unlisted co has made arrangements for compulsory market making for atleast 2 years from the date of listing of the shares subject to the following; a) Minimum 300 shares are undertaken by the market makers to buy and sell quotes b) The Bid Ask spread should not exceed 10% c) The inventory of the market makers on each of the stock exchanges as on the date of

Conditions for an IPO 1) Offer Document

To file a prospectus with the Registrar of Companies before issuing it to the public. Issuer must file draft prospectus (offer document) with SEBI atleast 30 days prior to filing of the prospectus with the ROC. The draft prospectus must be filed through merchant bankers.

Conditions for an IPO 1) Offer Document

If SEBI specifies changes in the draft prospectus , the issuer company or the lead merchant banker to the issue is required to carry out such changes. The Guidelines make it clear that although SEBI may specify changes or issue observations, it is under no obligation to do so.

Conditions for an IPO 2)Listing Application

An unlisted company is required to make an application for listing of such securities on one or more stock exchanges.

Conditions for an IPO 3)Issue of Securities in Dematerialised Before making an public issue the Form
company must enter into an agreement with a depository for dematerialisation of securities

Conditions for an IPO 4) Minimum number of Allotees

Prospective allotees are not less than one thousand in number.

Conditions for an IPO 5) IPO Grading

An unlisted co desirous of making an IPO is required to obtain grading from atleast one credit rating agency. Disclosures must be there in the offer document about the grades obtained and details of the description furnished by the credit rating agency for each of the grades.

Conditions for an IPO 6) Partly paid up shares and outstanding must first An unlisted cowarrants convert all the
partly paid up shares to fully paid up or forfeited. Co must also extinguish all the outstanding financial instruments and warrants or any other right that would entitle the existing promoters or shareholders any option to receive ESC after the IPO.

Conditions for an IPO 7) Lock In Pre- Issue Capital

The entire pre issue share capital of the unlisted company shall be locked in for a period of one year from the date of allotment in the proposed public issue. This is done so that the pre IPO shareholders would not be able to deal with the shares in any way for one year.

Method of IPO Book Building Process

Price determination is based on the orders placed and investors have an opportunity to place orders at different prices. Issue is sold at an acceptable price to the public.

Red Herring Prospectus

Secondary market Operations

A market which deals in securities that have been already issued by companies, is called secondary market. It is the base on which the primary market is depending. Also known as stock market.

Functions of the stock exchange

1. 2. 3. 4. 5. 6. 7. Maintains active trading. Fixation of the prices on demand supply. Ensures safe and fair dealing. Aids in financing the industry. Dissemination of information. Performance reflector. Self regulating organization (Internal audits and settlement of disputes).

Secondary market operations

Types of dealings Spot delivery contract. Ready delivery contract. ( Not > 7 days) Forward delivery contract (Every fortnight)

Credit rating
Since a lot of companies are raising money in the capital market using different instruments and securities , it becomes difficult for the investors to judge . CRISIL, ICRA, CARE are the rating agencies acting as the guide to the investors. CRISIL Credit Rating Information Services of India Limited ICRA Indian Credit Rating Agency CARE Credit Analysis and Research Ltd

Rating Methodology
History of the company Accounting quality Business fundamentals Liquidity management Quality of management Quality of assets

Rating Methodology
Profitability Return on equity and investments Capital structure Past performance Effect on normal business

Benefits of ratings
Superior information at low costs Calculated risks Encourages investments in high return companies No need to depend on brokers or merchant bankers Quick and comparative decisions Liquidity for debt instruments

Limitations of ratings
Do not give equity ratings Debt instruments are the only indicators of risks Become outdated very soon

Depositories
It is an organisation which holds the securities of a shareholder in electronic form and facilitates the transfer of ownership of securities on the settlement dates. Shares in depository are held in the electronic accounts ie in dematerialized form

Depositories - need
Irregularities in the securities due to scams in 1992 were exposed in the old trading system. Time consuming allotment and transfer of shares. Increase volume of transaction due to the new system. Increase foreign investments in India. Difficultly in dealing with physical shares, such as theft, fake/ forged transfers. Other costs like handling, transportation, transfer, back office costs etc.

Depositories - need
Liquidity of shares. Eliminates all the problems related to holding of shares in the physical form. Pledging of the shares and portfolio shuffling increase. Saves stamp duty charges, brokerage charges

SEBI
SEBI has been vested with regulatory powers by Parliament, over corporates in the issuance of capital, transfer of securities etc. It has been given a statutory status with wide regulatory powers for orderly functioning of Indian capital market.

Objectives of SEBI
To promote orderly and healthy growth of securities To protect the rights and interest of investors. Create proper market environment for orderly functioning of the securities market.

Objectives of SEBI
Regulation of operations of financial intermediaries such as brokers, underwriters, portfolio managers and mutual funds. Promote professionalism among intermediaries To create healthy market environment. Suitable education and guidance to investors

Role of SEBI In investor protection

1) Issue of guidelines a) To companies bringing new issues in the market. b) Code of advertisements in case of public issues. c) Underwriting made optional under certain terms to reduce costs. d) Panel actions when guidelines not followed

Role of SEBI In investor protection

2) Public interest advertisements a) SEBI issues advt to enlighten investors on basic features and minimum precautions. 3) Dealing with customer complaints a) Non receipts of refund orders/dividends/interests/allottment letters. b) Delays in share / debenture transfer c) Consumer redressal forum.

Role of SEBI In investor protection

4) Investor education a) Encourages formation of investors associations b) Publications monthly SEBI market review and SEBI News letter. 5) Investor Surveys 6) Introduction to stock invest interest payment for application money. 7) Disclosures by companies half yrly unaudited results, abridged prospectus with share application form. 8) Code regarding takeovers , mergers and amalgamations

Money Market
Financial institutions joining together for dealing in financial or monetary assets. Market for short term financial instruments. Maturity period is less than a year. Regulated by RBI.

Money Market instruments Treasury Bills

central / state govt borrowings Are issued at discount Fixed period Raised for expenditure needs Purchased by any one except state govt Issued fortnightly or monthly auctions 1 lakhs and multiples 91 days or 364 days Market determined rate Highly liquid

Money market Instruments Certificate of Deposit

Issued by SCBs 15 days to 12 months Transferable Rs 1 lakhs and multiples Issued in demat form only Interest rate market determined or floating rates

Money market Instruments Commercial Paper

Corporate borrowers 15 days to 1year 5 lakhs and multiples Investors can be banking companies, corporate bodies, NRIs Issued at discount paid at FV

Money market Instruments Repurchase option

Repo transaction Borrowing banks and lender banks Security involved during transfer Agreement to reverse transactions on particular date Predetermined Interest rate. Interest rate market determined 3 days to 14 days minimum Fund Management.

Money market Instruments Repo and Reverse Repo

Repo and Reverse Repo The lending rate / money market borrowing rate is Repo. While borrowing rate / money market lending rate is the Reverse Repo. Interbank Repo and RBI Repo difference

Money market Instruments Money Market Mutual Funds

Investments only in money market instruments of high value Min 1 lakh and repurchase subject to lock in for 3 months. Min 20% invested in 182 days T- bills 20% in call and short notice money Controlled by RBI

Money market Instruments Factoring

Purchasing the accounts receivable of the seller for immediate cash. Administer the sales ledger of the seller. Collecting a/c receivable. Assume losses arising due to bad debts. Advisory services to seller. Prepayment of 80% of the invoice value and bal on realization Factors banks or private financial companies

Bill Discounting
Liquid asset Discounting charges Demand bills repayable on demand and no maturity period , banker can demand money from the drawee on presentation of the bill. Usance bills certain time period of maturity and bank has to retain the bill till due date. LIC , UTI ICICI etc

Net Asset Value (NAV)

NAV = (Market Value of the Fund + Receivables+ Accrued income Liabilities and Accrued expenses) / Number of outstanding units NAV = Assets Liabilities no of units

Returns
{(NAVe NAVb)+ Dividend} X 100 NAVb NAVe NAVb X 100 NAVb

Load
Load is the factor that is applied to the NAV of the scheme to arrive at the price. Entry load / sales load commission paid to agents to bring in new business , cost incurred for additional sale. Fund may decide to charge it only on the new investors

Load
Exit load investor when wants to repurchase the units , the fund may incur some cost in order to liquidate the units for paying off the investor. Cost for the new investors on the units will be higher than the NAV because of the addition of entry load. Cost on the units paid to the investors will be lower than the NAV when there is an Exit load.

Computation of Sales price and Purchase price

Sales price NAV (1+ sales load) Repurchase Price = NAV (1- exit load)