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C1
Nature and Scope of Investment Decisions
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Definition of Investment
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Why Invest?
We invest in order to improve our future welfare.
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The Investment Process A typical investment decision undergoes a five step procedure which, in turn, forms the basis of the investment process. These steps are: 1. Determine the investment objectives and policy.
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2. SECURITY ANALYSIS:
This step would consist of examining the risk-return characteristics of individual securities or groups of securities identified under step one. The aim here is to know if it is worthwhile to acquire these securities for the portfolio. And there are two broad approaches to finding out the mispriced status of individual securities. One approach is known as technical analysis. The second approach is known as fundamental approach.
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3. PORTFOLIO CONSTRUCTION:
This consists of identifying the specific securities in which to invest and determining the proportion of the investors wealth to be invested in each. Portfolio construction address itself to three major problems via., selectivity, timing, and diversification.
The related questions would be: which specific shares/debentures to buy, when to buy, and how best to combine them in such a way which minimize the overall risk for a given level of expected return. Cont.
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4. PORTFOLIO REVISION:
As time passes, the investor would discover that securities that once were very attractive have ceased to be so. Also, new securities with promises of high returns and relatively low risk have emerged. In view of such developments it would be necessary for him to review the portfolio. He would liquidate the unattractive securities and acquire the new one from the market. In a way, he repeats the first three steps of the investment process.
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A rational investor would constantly examine his chosen portfolio both for average return and risk. Measures, for doing so, must be developed.
Also, the calculated risk-return positions must be compared with certain yardsticks or norms. This step in the investment process, thus, acquires considerable significance since the tasks involved are quantitative measurement of actual risk and return their evaluation against objective norms.
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Then there are securities or financial instruments, which are the objects of purchase and sale. Finally, the mechanism which transfers from one owner to another comprises of a host of intermediaries. All these elements comprise the investment environment. Investors have to be fully aware of this environment for making optimal investment decisions.
The three elements of the investment environment viz., instruments, institutions and markets are of PRIME IMPORTANCE.
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Financial Intermediaries
Financial intermediaries perform the intermediation function i.e., they bring the users of funds and the suppliers of funds together.
Many of them issue financial assets.
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Investment
Speculation
An Investor has a relatively A Speculator has very longer planning horizon short planning horizon. Normally 1 year or more Few days to few months Daring and careless
Return Expectations
Quantity of risk Stability of income
Moderate
Small Very stable
Very High
Large Uncertain and variable
Basis of decisions
Fundamental Analysis and Technical Analysis and careful evaluation of Market Psychology prospects of firm.
Earnings of enterprise
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Source of income
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That is, the result of so-called investments is quickly resolved by the roll of the dice or the turn of a card.
Such activities have planning horizons that are far too brief to do the research that should precede any investment activity.
Cont.
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GAMBLING V/S SPECULATION: Speculation is not the same as gambling and the two should never be confused. The difference between speculation and gambling is that in gambling, artificial and unnecessary risks are created whereas in speculation the risks already exist and the question is simple who shall bear them? Gambling is a far cry from the carefully planned research and scientific procedure which underlies the best speculative practice. The gambler plays rumors, tips, guesses and other unreliable intuitions which should not play any but a negative role in the trained speculators process. Speculation is a reasoned anticipation of future conditions. It does not rely upon gossip or labels. It attempts to organise the relevant knowledge as a support for judgments. It is as legitimate and moral as any other form of risk-taking business activity.
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Form of return
3. Safety and security of funds Risk Liquidity Tax considerations Conceal ability
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Cont.
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Bank deposits
Post office time deposits (POTD) Monthly income scheme of the post office (MISPO) Kisan Vikas Patra (KVP)
Cont.
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Real estate
Residential House
Sources of Housing Finance Features of Housing Loans Guidelines for Buying a Flat Commercial Property Agricultural Land Suburban Land Time Share in a Holiday Resort
Cont.
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Precious objects Gold and Silver Precious Stones Art Objects Insurance policies
Endowment Assurance
Money Back Plan Whole Life Assurance Unit Linked Plan Term Assurance Annuity Plans
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Types of Investor
Measured Investor
Reluctant Investor
Competitive Investor
Unprepared Investor
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C1
Chapter Ends
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