A PROJECT ON PORTFOLIO MANAGEMENT
INTRODUCTION TO PORTFOLIO MANAGEMENT
Portfolio Management and Investment Decision as a concept came to be familiar with the conclusion of Second World War when things in the stock market can be liberally ruined the fortune of individual, companies and even government‘s. It was then discovered that the investing in various scripts instead of putting all the money in a single securities yielded weather return with low risk percentage. It goes to the credit of HARRY MARKOWITZ, 1991 noble laurelled who have pioneered the concept of combining high yielded securities with these low, but steady yielding securities, to achieve optimum correlation coefficient of shares.
Portfolio Management refers to the management of portfolios for others by professional investment managers. It refers to the management of an individual investor’s portfolio by a professionally qualified person ranging from Merchant Banker to specified portfolio company.
DEFINITION BY SEBI:
A Portfolio Management is the total holdings of securities belonging to any person. Portfolio is a combination of securities that have returns and risk characteristics of their own; portfolio may not take on the aggregate characteristics of their individual parts.
Thus, a portfolio is a combination of various assets and / or instruments of investments.
Combination may have different features of risk and return separate from those of the components. The portfolio is also built up of the wealth or income of the investor over a period of time with a view to suit its return or risk preference to that of the portfolio that he holds. The portfolio analysis is thus an analysis of risk-return characteristics of individual securities in the portfolio and changes that may take place in combination with other securities due to interaction among them and impact of each on others.
Security analysis is only a tool for efficient portfolio management; both of them together and cannot be disassociated. Portfolios are combination of assets held by the investors.
These combinations may be various assets classed like Equity and Debt or of different issues like Govt. Bonds and Corporate Debts or of various instruments like Discount Bonds, Debentures and Blue Chip Equity nor Scripts of emerging Blue Chip Companies.
Portfolio analysis includes portfolio construction, selection of securities, revision of portfolio evaluation and monitoring of the performance of the portfolio. All these are part of the portfolio management.
The traditional portfolio theory aims at the selection of such securities that would fit in well with the asset preferences, needs and choices of the investors. Thus, retired executive invests in fixed income securities for a regular and fixed return. A business executive or a young aggressive investor on the other hand invests in growing companies and in risky ventures.
The modern portfolio theory postulates that maximization of returns and minimization of risk will yield optional returns and the choice and attitudes of investors are only a starting point for investment decisions and that vigorous risk returns analysis is necessary for optimization of returns.
IMPORTANCE & NEED OF STUDY:
Portfolio management or investment helps investors in effective and efficient management of their investment to achieve this goal. The rapid growth of capital markets in India has opened up new investment avenues for investors. The stock markets have become attractive investment options for the common man. But the need is to be able to effectively and efficiently manage investments in order to keep maximum returns with minimum risk.
Hence, this study on “PORTFOLIO MANAGEMENT & INVESTMENT DECISION” to examine the role process and merits of effective investment management and decision.
OBJECTIVES OF STUDY:
METHODOLOGY:
Primary Source:
Information gathered from interacting with Mrs. Swathy in the class room and the data from the textbooks and other magazines.
Secondary Source:
Daily prices of Scripts from news papers.
SCOPE:
LIMITATIONS:
A portfolio is a collection of securities since it is really desirable to invest the entire funds of an individual or an institution or a single security. It is essential that every security be viewed in a portfolio context. Thus, it seems logical that the expected return of the portfolio. Portfolio analysis considers determining of future risk and return in holding various blends of individual securities.
Portfolio expected return is a weighted average of the expected return of the individual securities, but portfolio variance, in short contrast, can be something reduced. Portfolio risk is a risk that depends greatly on the co-variance among returns of individual securities. Portfolios, which are combination of securities, may or may not take on the aggregate characteristics of their individual parts.
Since portfolios expected return is a weighted average of the expected return of its securities, the contribution of each security of the portfolios expected returns depends on its expected returns and its proportionate share of the initial portfolios market value. It follows that an investor who simply wants the greatest possible expected return should hold one security; the one which is considered to have a greatest expected return. Very few investors do this, and very few investment advisors would counsel such an extreme policy. Instead, investors should diversify, which means that their portfolio should include more than one security.
OBJECTIVES OF PORTFOLIO MANAGEMENT:
The main objective of investment portfolio management is to maximize the returns from the investment and to minimize the risk involved in investment. Moreover, risk in price or inflation erodes the value of money and hence, investment must provide a protection against inflation.
Secondary Objectives:
The following are the other ancillary objectives:
Return from the Angle of Securities can be:
1. Fixed Income Securities
NEED FOR PORTFOLIO MANAGEMENT:
Portfolio management is a process encompassing many activities of investment in assets and securities. It is a dynamic and flexible concept and involves regular and systematic analysis, judgment and action. The objective of this service is to help the unknown investors with the expertise of professionals in investment portfolio management. It involves construction of a portfolio based upon the investor’s objectives, constraints, preferences for risk, returns and tax liability. The portfolio is reviewed and adjusted from time to time in tune with the market conditions. The evaluation of portfolio is to be done in terms of targets set for risk and returns. The changes in the portfolio are to be effected to meet the changing condition.
Portfolio construction refers to the allocation of surplus funds in hand among a variety of financial assets open for investment. Portfolio theory concerns itself with the principles governing such allocation. The modern view of investment is oriented more go towards the assembly of proper combination of individual securities to form investment portfolio.
A combination of securities held together will give a beneficial result if they are grouped in a manner to secure higher returns after taking into consideration the risk elements.
The modern theory is of the view that by diversification, risk can be reduced. Diversification can be made by the investor either by having a large number of shares of companies in different regions, in different industries or those producing different types of product lines. Modern theory believes in the perspective of combination of securities under constraints of risk and returns
PORTFOLIO MANAGEMENT PROCESS:
Investment management is a complex activity which may be broken down into the following steps:
1. Specification of investment objectives and constraints:
The typical objectives sought by investors are current income, capital appreciation, and safety of principle. The relative importance of these objectives should be specified. Further, the constraints arising from liquidity, time horizon, tax and special circumstances must be identified.
2. Choice of the Asset mix:
The most important decision in portfolio management is the asset mix decision. Very broadly, this is concerned with the proportions of ‘stocks’ (equity shares and units/shares of equity-oriented mutual funds) and ‘bonds’ in the portfolio.
The appropriate ‘stock-bond’ mix depends mainly on the risk tolerance and investment horizon of the investor.
ELEMENTS OF PORTFOLIO MANAGEMENT:
Portfolio management is an on-going process involving the following basic tasks:
Risk is uncertainty of the income / capital appreciation or loss or both. All investments are risky. The higher the risk taken, the higher is the return. But proper management of risk involves the right choice of investments whose risks are compensating. The total risks of two companies may be different and even lower than the risk of a group of two companies if their companies are offset by each other.
SOURCES OF INVESTMENT RISK:
Business Risk:
As a holder of corporate securities (equity shares or debentures), you are exposed to the risk of poor business performance. This may be caused by a variety of factors like heightened competition, emergence of new technologies, development of substitute products, shifts in consumer preferences, inadequate supply of essential inputs, changes in governmental policies and so on.
Interest Rate Risk:
The changes in interest rate have a bearing on the welfare on investors. As the interest rate goes up, the market price of existing firmed income securities falls, and vice versa. This happens because the buyer of a fixed income security would not buy it at its par value or face value if its fixed interest rate is lower than the prevailing interest rate on a similar security. For example, a debenture that has a face value of Rs.100 at a fixed rate of 12% will sell at a discount, if the interest rate moves up from, say 12% to 14%. While the chances in interest rate have a direct bearing on the prices of fixed income securities, they affect equity prices too, albeit some what indirectly.
The two major types of risks are:
The unsystematic risks are mismanagement, increasing inventory, wrong financial policy, defective marketing etc. this is diversifiable or avoidable because it is possible to eliminate or diversify away this component of risk to a considerable extent by investing in a large portfolio of securities. The unsystematic risk stems from inefficiency magnitude of those factors different form one company to another.
RETURNS ON PORTFOLIO:
Each security in a portfolio contributes return in the proportion of its investments in security. Thus, the portfolio expected return is the weighted average of the expected return, from each of the securities, with weights representing the proportions share of the security in the total investment. Why does an investor have so many securities in his portfolio? If the security ABC gives the maximum return why not he invests in that security all his funds and thus maximize return? The answer to this questions lie in the investor’s perception of risk attached to investments, his objectives of income, safety, appreciation, liquidity and hedge against loss of value of money etc. This pattern of investment in different asset categories, types of investment, etc., would all be described under the caption of diversification, which aims at the reduction or even elimination of non-systematic risks and achieve the specific objectives of investors.
RISK ON PORTFOLIO:
The expected returns from individual securities carry some degree of risk. Risk on the portfolio is different from the risk on individual securities. The risk is reflected in the variability of the returns from zero to infinity. Risk of the individual assets or a portfolio is measured by the variance of its return. The expected return depends on the probability of the returns and their weighted contribution to the risk of the portfolio. These are two measures of risk in this context; one is the absolute deviation and the other is standard deviation.
Most investors invest in a portfolio of assets, because as to spread risk by not putting all eggs in one basket. Hence, what really matters to them is not the risk and return of stocks in isolation, but the risk and return of the portfolio as a whole. Risk is mainly reduced by Diversification.
RISK RETURN ANALYSIS:
All investments have some risk. Investment in shares of companies has its own risk or uncertainty; these risks arise out of variability of yields and uncertainty of appreciation or depreciation of share prices, losses of liquidity etc.
The risk over time can be represented by the variance of the returns, while the return over time is capital appreciation plus payout divided by the purchase price of the share.
Normally, the higher the risk that the investor takes, the higher is the return. There is, however, a risk less return on capital of about 12% which is the bank rate charged by the Reserve Bank of India or long term yielded on Government Securities at around 13% to 14%. This risk less return refers to lack of variability of return and no uncertainty in the repayment or capital. But other risks such as loss of liquidity due to parting with money etc., may however remain, but are rewarded by the total return on the capital. Risk-return is subject to variation and the objectives of the portfolio manager are to reduce that variability and thus, reduce the risky by choosing an appropriate portfolio.
Traditional approach advocates that one security holds the better, it is according to the modern approach diversification should not be quantity that should be related to the quality of scripts which leads to quality of portfolio.
Experience has shown that beyond certain securities, adding more securities becomes expensive.
SIMPLE DIVERSIFICATION REDUCES:
An asset’s total risk can be divided into systematic plus unsystematic risk, as shown below:
Systematic risk (undiversifiable risk) + unsystematic risk (diversified risk) = Total risk = Var (r).
Unsystematic risk is that portion of the risk that is unique to the firm (for example, risk due to strikes and management errors). Unsystematic risk can be reduced to zero by simple diversification.
Simple diversification is the random selection of securities that are to be added to a portfolio. As the number of randomly selected securities added to a portfolio is increased, the level of unsystematic risk approaches zero. However, market related systematic risk cannot be reduced by simple diversification. This risk is common to all securities.
PERSONS INVOLVED IN PORTFOLIO MANAGEMENT:
Investor:
Investors are the people who are interested in investing their funds.
Portfolio Manager:
He is a person who is in the wake of a contract agreement with a client, advices or directs or undertakes on behalf of the clients, the management or distribution or management of the funds of the client, as the case may be.
Discretionary Portfolio Manager:
He is a Manager who exercises under a contract relating to a portfolio management exercise any degree of discretion as to the investment or management of portfolio or securities or funds of clients, as the case may be.
The relationship between an Investor and Portfolio Manager is of a highly interactive nature:
The Portfolio Manager carries out all the transactions pertaining to the investor under the Power of the Attorney during the last two decades, and increasing complexity was witnessed in the capital market and its trading procedures. In this context, a key (uninformed) investor / informed investor found himself in a tricky situation, to keep track of market movement, update his knowledge, yet stay in the capital market and make money. Therefore, he looks forward to resuming help from portfolio manager to do the job for him. The portfolio management seeks to strike a balance between risks and return.
The generally rule is that greater the risk, more are the profits. But Securities and Exchange Board of India (SEBI) in its guidelines prohibits portfolio managers to promise any return to investor.
Portfolio Management is not a substitute to the inherent risks associated with equity investment.
WHO CAN BE A PORTFOLIO MANAGER?
Only those who are registered and pay the required license fee are eligible to operate as Portfolio Managers. An applicant for this purpose should have necessary infrastructure with professionally qualified persons and with a minimum of two persons with experience in this business and a minimum net worth of Rs.50 lakhs. The Certificate once granted is valid for three years. Fees payable for registration are Rs.2.5 lakhs every for two years and Rs.1 lakh for the third year. From the fourth year onwards, renewal fees per annum are Rs.75000/-. These are subjected to change by the SEBI.
The SEBI has imposed a number of obligations and a Code of Conduct on them. The Portfolio Manager should have a high standard of integrity, honesty and should not have been convicted of any economic offence or moral turpitude. He should not resort to rigging up of prices, insider trading or creating false markets, etc. Their books of accounts are subject to inspection and audit by SEBI. The observance of the code of conduct and guidelines given by the SEBI are subject to inspection and penalties for violation are imposed. The manager has to submit periodical returns and documents as may be required by the SEBI from time-to- time.
FUNCTIONS OF PORTFOLIO MANAGERS:
·Conducting Market and Economic Survey:
This is essential for recommending good yielding securities. They have to study the current fiscal policy, budget proposal, individual policies etc. Further, portfolio manager should take into account the Credit Policy, Industrial growth, Foreign exchange & Possible change in Corporate Laws etc.
·Financial Analysis:
He should evaluate the financial statement of company in order to understand their net worth, future earnings, prospectus and strength.
· Study of Stock Market:
He should observe the trends at various stock exchanges and analyses the scripts, so that he is able to identify the right securities for investment.
· Study of Industry:
He should study the industry to know its future prospects, technical changes etc., required for investment proposal. He should also see the problems of the industry.
· Decide the type of portfolio:
Keeping in mind the objectives of portfolio, a portfolio manager has to decide whether the portfolio should comprise equity / preference shares, debentures (convertibles, non-convertibles or partly convertibles), money market securities etc., or a mix of more than one type of proper mix ensures higher safety, yield and liquidity coupled with balanced risk techniques of portfolio management.
A Portfolio Manager in the Indian context has been Brokers (Big brokers), who on the basis of their experience, market trends, inside trading, helps the limited knowledge persons.
Registered Merchant Bankers can act as Portfolio Managers. Investors must look forward for qualification and performance, and ability and research base of the portfolio manager.
TECHNIQUES OF PORTFOLIO MANAGEMENT:
As of now the under noted techniques of portfolio management are in vague in our country:
Among the external factors Changes in the government policies, Trade cycles, Political stability etc.
2. Equity Stock Analysis:
Under this method, the probable future value of a share of a company is determined. It can be done by ratio of earning per share of the company and price earning ratio.
Earnings Per Share = Profit After Tax____
No. of Equity Shares
Price Earnings Ratio = Market Price___________
EPS (Earnings Per Share)
One can estimate the trend of earning by EPS, which reflects trends of earning quality of company, dividend policy, and quality of management. Price earnings ratio indicate a confidence of market about the company future, a high rating is preferable.
The following points must be considered by Portfolio Managers while analyzing the securities:
2. Industrial Analysis of prospective earnings, cash flows, working capital, dividends etc.
The wise principle of Portfolio Management suggests that “Buy when the market is low or BEARISH, and sell when the market is rising or BULLISH”.
Stock market operations can be analyzed by:
Prices are based upon demand and supply of the market:
· Traditional approach assumes that
Diversification of Portfolio reduces risk, but it should be based on certain assessment such as:
Trend Analysis of Past Share Prices:
Valuation of intrinsic value of company (trend-marker moves are known for their uncertainties. They are compared to be high, and low prompts of wave market trends are constituted by these waves it is a pattern of movement based on past).
The following rules must be studied while cautious portfolio manager before decide to invest their funds in portfolios.
a.Compile the financials of the companies for the immediate past 3 years such as turnover, gross profit, net profit before tax, compare the profit earning of company with that of the industry, average nature of product manufacture, services rendered and its future demand know about the promoters and their background, dividend track record, bonus shares in the past 3 to 5 years, reflects company’s commitment to shareholders. The relevant information can be accessed from the ROC (Registrar of Companies) published financial results, financial quarterly results, journals and ledgers.
b Watch out the highs and lows of the scripts for the past 2 to 3 years and their timing cyclical scripts have a tendency to repeat their performance. This hypothesis can be true of all other financials.
c.The higher the trading volume, higher is liquidity and still higher the chances of speculation. It is futile to invest in such shares whose daily movements cannot be kept track. If you want to reap rich returns keep investment over along horizon and it will offset the wild intra day trading fluctuations, the minor movement of scripts may be ignored, we must remember that share market moves in phases and the span of each phase is 6 months to 5 years.
· Long term of the market should be the guiding factor to enable you to invest and quit. The market is now bullish and the trend is likely to continue for some more time.
· Un-tradable shares must find a last place in portfolio apart from return; even capital invested is eroded with no way of exit with inside.
How at all one should avoid such scripts in future?
(1) Never invest on the basis of an insider trader tip in a company which is not sound (insider trader is person who gives tip for trading in securities based on prices sensitive up price sensitive un published information relating to such security).
(2) Never invest in the so called promoter quota of lesser known company.
(3) Never invest in a company about which you do not have appropriate knowledge.
(4) Never invest in a company which doesn’t have a stringent financial record. Your portfolio should not stagnate.
(5) Shuffle the portfolio and replace the slow moving sector with active ones, investors were shatter when the technology, media, software, stops have taken a down slight.
(6) Never fall to the magic of the scripts, don’t confine to the blue chip companies; look out for other portfolio that ensures regular dividends.
(7) In the same way, never react to sudden raise or fall in stock market index such fluctuation is movement minor correction’s in stock market held in consolidation of market thereby reading out a weak player often taste on wait for the dust and dim to settle to make your move.
PORTFOLIO MANAGEMENT AND DIVERSIFICATOIN:
Combinations of securities that have high risk and return features make up a portfolio.
Portfolios may or may not take on the aggregate characteristics of individual part, portfolio analysis takes various components of risk and return for each industry and consider the effort of combined security.
Portfolio selection involves choosing the best portfolio to suit the risk return preferences of portfolio investor management of portfolio is a dynamic activity of evaluating and revising the portfolio in terms of portfolios objectives. It may include in cash also, even if one goes bad the other will provide protection from the loss even cash is subject to inflation the diversification can be either vertical or horizontal. The vertical diversification portfolio can have script of different company’s within the same industry.
In horizontal diversification, one can have different scripts chosen from different industries.
CEMENT INDUSTRY
TEXTILE INDUSTRY
ACC Cement
Reliance Industries
JK Cement
Garden Silk Mills Ltd.
Ultra Tech Cement
NECP Textile
Birla Cement
Bombay Dyeing
Vishnu Cement
Grasim Industries
Priya Cement
Baroda Rayon Corporation
Ramco Cement
Cheslind Textiles Limited
HORIZONTAL DIVERSIFICATION
TISCO (Manufacturing)
ACC Cement (Cement)
Garden Silk Mills Ltd. (Textile)
Infosys Technology Limited (Software)
BSES Power Limited (Power)
Ultra Tech (Construction)
It should be an adequate diversification looking in to the size of portfolio.
Traditional approach advocates that the more security one holds in a portfolio the better it is according to modern approach. Diversification should not be quantified but should be related to the quality of scripts which leads to the quality and portfolio subsequently experience can show that beyond a certain number of securities adding more securities become expensive.
Investment in fixed return securities in the current market scenario, which is passing through an uncertain phase investors are facing the problem of lack of liquidity combined with minimum returns. The important point to both is that the equity market and debt market moves in opposite direction. Where the stock market is booming, equities perform better; whereas in depressed market, the assured returns related securities market out perform equities.
It is cyclic and is evident in more global market keeping this in mind an investor can shift from fixed income securities to equities and vice versa along with the changing market scenario. If the investments are wisely planned, they fetch good returns, even when the market is depressed. More importantly, the investor must adopt the time bound strategy in differing state of market to achieve the optimum result. When the aim is short term returns, it would be wise for the investor to invest in equities when the market is in boom & it could be reviewed if the same is done.
Maximum returns can be achieved by following a composite pattern of investment by having suitable investment allocation strategy among the available resources.
· Never invest in a single security, your investment can be allocated in the following areas:
1. Equities - Primary and Secondary Market.
2. Mutual Funds
3. Bank Deposits
4. Fixed Deposits & Bonds and the Tax Saving Schemes
· The different areas of fixed income are:
1. Fixed Deposits in company
2. Bonds
3. Mutual Funds Schemes.
With an investment strategy to invest in debt investment in fixed deposit can be made for the simple reason that assured fixed income of a high of 14-17% per annum can be expected, which is much safer than investing in a highly volatile stock market, even in comparison to banks deposit which gives a maximum return of 12% per annum, fixed deposits in high profile esteemed will performing companies definitely gives a higher returns.
BETA:
The concept of Beta as a measure of systematic risk is useful in portfolio management. The beta measures the movement of one script in relation to the market trend. Thus BETA can be positive or negative depending on whether the individual scrip moves in the same direction as the market or in the opposite direction and the extent of variance of one scrip vis-à-vis the market is being measured by BETA. The BETA is negative if the share price moves contrary to the general trend and positive if it moves in the same direction. The Scrips with higher BETA of more than one are called Aggressive, and those with a low BETA of less than one are called Defensive.
It is therefore necessary to calculate Betas for all Scrips and choose those with high Beta for a portfolio of high returns.
INVESTMENT DECISIONS:
Definition of Investment:
According to F. AMLING “Investment may be defined as the purchase by an Individual or an Institutional investor of a financial or real asset that produces a return proportional to the risk assumed over some future investment period”. According to D.E. Fisher and R.J. Jordon, Investment is a commitment of funds made in the expectation of some positive rate of return. If the investment is properly undertaken, the return will be commensurate with the risk of the investor assumes”.
Concept of Investment:
Investment will generally be used in its financial sense and as such investment is the allocation of monetary resources to assets that are expected to yield some gain or positive return over a given period of time. Investment is a commitment of a person’s funds to derive future income in the form of interest, dividends, rent, premiums, pension benefits or the appreciation of the value of his principal capital.
Many types of investment media or channels for making investments are available. Securities ranging from risk free instruments to highly speculative shares and debentures are available for alternative investments.
All investments are risky, as the investor parts with his money. An efficient investor with proper training can reduce the risk and maximize returns. He can avoid pitfalls and protect his interest.
There are different methods of classifying the investment avenues. A major classification is Physical Investments and Financial Investments. They are physical, if savings are used to acquire physical assets, useful for consumption or production. Some physical assets like ploughs, tractors or harvesters are useful in agricultural production. A few useful physical assets like cars, jeeps etc., are useful in business.
Many items of physical assets are not useful for further production or goods or create income as in the case of consumer durables, gold, silver etc. among different types of investment, some are marketable and transferable and others are not. Examples of marketable assets are shares and debentures of public limited companies, particularly the listed companies on Stock Exchange, Bonds of P.S.U., Government securities etc. non-marketable securities or investments in bank deposits, provident fund and pension funds, insurance certificates, post office deposits, national savings certificate, company deposits, private limited companies shares etc.
The investment process may be described in the following stages:
Investment Policy:
The first stage determines and involves personal financial affairs and objectives before making investment. It may also be called the preparation of investment policy stage. The investor has to see that he should be able to create an emergency fund, an element of liquidity and quick convertibility of securities into cash. This stage may, therefore be called the proper time of identifying investment assets and considering the various features of investments.
Investment Analysis:
After arranging a logical order of types of investment preferred, the next step is to analyze the securities available for investment. The investor must take a comparative analysis of type of industry, kind of securities etc. The primary concerns at this stage would be to form beliefs regarding future behavior of prices and stocks, the expected return and associated risks.
Portfolio Construction and Feedback:
Portfolio construction requires knowledge of different aspects of securities in relation to safety and growth of principal, liquidity of assets etc. In this stage, we study determination of diversification level, consideration of investment timing selection of investment assets, allocation of invest able wealth to different investments, evaluation of portfolio for feedback.
INVESTMENT DECISIONS –
GUIDELINES FOR EQUITY INVESTMENT
Equity shares are characterized by price fluctuations, which can produce substantial gains or inflict severe losses. Given the volatility and dynamism of the stock market, investor requires greater competence and skill, along with a touch of good luck too, to invest in equity shares. Here are some general guidelines to play to equity game, irrespective of whether you are aggressive or conservative.
Requirement of Portfolio:
1. Maintain adequate diversification when relative values of various securities in the portfolio change.
2. Incorporate new information relevant for return investment.
3. Expand or contrast the size of portfolio to absorb funds or with draw funds.
4. Reflect changes in investor risk disposition.
Qualities for successful Investing:
· Contrary thinking
· Patience
· Composure
· Flexibility
· Openness
ASSUMPTIONS:
1. Investors consider each investment alternative as being represented by a probability distribution of expected returns over some holding period.
2. Investors maximize one period-expected utility and possess utility curve, which demonstrates diminishing marginal utility of wealth.
3. Individuals estimate risk on the risk on the basis of the variability of expected returns.
4. Investors base their decisions solely on expected return and variance or returns only.
5. For a given risk level, investors prefer high returns to lower return, similarly, for a given level of expected return, investors prefer risk to more risk.
Under these assumptions, a single asset or portfolio of assets is considered to be “efficient”, if no other asset or portfolio of assets offers higher expected return with the same risk or lower risk with the same expected return.
CONSTRUCTION OF THE STUDY:
Purpose of the Study:
The purpose of the study is to find out at what percentage of investment should be invested between two companies, on the basis of risk and return of each security in comparison. These percentages helps in allocating the funds available for investment based on risky portfolios.
Implementation of Study:
For implementing the study, securities or scripts constituting the Sensex market are selected of one month closing share movement price data from the Economic Times and Financial Express from Jan 3rd to 31st Jan 2008
As the study shows the following findings for portfolio construction:
When an Investor would be able to achieve the returns of shares and debentures, resultant portfolio would be known as diversified portfolio. Thus, portfolio construction would address itself to three major concepts viz., selectivity, timing and diversification.
In case of portfolio management, negatively correlated assets are most profitable.
Correlation between BAJAJ & ITC companies are negatively correlated which means both the combinations of portfolios are at good position to gain in future.
Investors may invest their money for the long run, as both the combinations are most suitable portfolios. A rational investor would constantly examine his chosen portfolio both for average return and risk.
CONCLUSIONS
ICICI & HDFC
The combination of ICICI and HDFC gives the proportion of investment is 1.1801 and 0.8199 for ICICI and HDFC based on the standard deviations. The standard deviation for ICICI is 34.846 and for HDFC is 24.88.
Hence the investor should invest their funds more in HDFC when compared to ICICI as the risk involved in HDFC is less than ICICI as the standard deviation of HDFC is less than that of ICICI.
WIPRO & IBM
The combination of WIPRO and IBM gives the proportion of investment is 0.4905 and 0.9497 for WIPRO and IBM based on the standard deviations. The standard deviation for WIPRO is 35.12 and for IBM is 42.6.
Hence the investor should invest their funds more in WIPRO when compared to IBM as the risk involved in WIPRO is less than IBM as the standard deviation of WIPRO is less than that of IBM.
ITC & COLGATE PALMOLIVE
The combination of ITC and COLGATE gives the proportion of investment is 0.0563 and 0.50084 for ITC and COLGATE based on the standard deviations. The standard deviation for ITC is 54.55 and for COLGATE is 22.2.
Hence the investor should invest their funds more in COLGATE when compared to ITC as the risk involved in COLGATE is less than ITC as the standard deviation of COLGATE is less than that of ITC.
CIPLA & RANBAXY
The combination of CIPLA and RANBAXY gives the proportion of investment is 0.49916 and 0.50084 for CIPLA and RANBAXY based on the standard deviations. The standard deviation for CIPLA is 55.22 and for RANBAXY is 55.13. When compared to both the risk is almost same, hence the risk is same when invested in either of the security.
MAHINDRA & MAHINDRA & BAJAJ AUTO
The combination of M&M and BAJAJ AUTO gives the proportion of investment is 1.6206 and 0.6206 for M&M and BAJAJ AUTO based on the standard deviations. The standard deviation for M&M is 104.186 and for BAJAJ AUTO is 54.6
Hence the investor should invest their funds more in BAJAJ AUTO when compared to M&M as the risk involved in BAJAJ AUTO is less than M&M as the standard deviation of BAJAJ AUTO is less than that of M&M.
CONCLUSIONS FOR CORRELATION
In case of perfectly correlated securities or stocks, the risk can be reduced to a minimum point.
Portfolio Management and Investment Decision as a concept came to be familiar with the conclusion of Second World War when things in the stock market can be liberally ruined the fortune of individual, companies and even government‘s. It was then discovered that the investing in various scripts instead of putting all the money in a single securities yielded weather return with low risk percentage. It goes to the credit of HARRY MARKOWITZ, 1991 noble laurelled who have pioneered the concept of combining high yielded securities with these low, but steady yielding securities, to achieve optimum correlation coefficient of shares.
Portfolio Management refers to the management of portfolios for others by professional investment managers. It refers to the management of an individual investor’s portfolio by a professionally qualified person ranging from Merchant Banker to specified portfolio company.
DEFINITION BY SEBI:
A Portfolio Management is the total holdings of securities belonging to any person. Portfolio is a combination of securities that have returns and risk characteristics of their own; portfolio may not take on the aggregate characteristics of their individual parts.
Thus, a portfolio is a combination of various assets and / or instruments of investments.
Combination may have different features of risk and return separate from those of the components. The portfolio is also built up of the wealth or income of the investor over a period of time with a view to suit its return or risk preference to that of the portfolio that he holds. The portfolio analysis is thus an analysis of risk-return characteristics of individual securities in the portfolio and changes that may take place in combination with other securities due to interaction among them and impact of each on others.
Security analysis is only a tool for efficient portfolio management; both of them together and cannot be disassociated. Portfolios are combination of assets held by the investors.
These combinations may be various assets classed like Equity and Debt or of different issues like Govt. Bonds and Corporate Debts or of various instruments like Discount Bonds, Debentures and Blue Chip Equity nor Scripts of emerging Blue Chip Companies.
Portfolio analysis includes portfolio construction, selection of securities, revision of portfolio evaluation and monitoring of the performance of the portfolio. All these are part of the portfolio management.
The traditional portfolio theory aims at the selection of such securities that would fit in well with the asset preferences, needs and choices of the investors. Thus, retired executive invests in fixed income securities for a regular and fixed return. A business executive or a young aggressive investor on the other hand invests in growing companies and in risky ventures.
The modern portfolio theory postulates that maximization of returns and minimization of risk will yield optional returns and the choice and attitudes of investors are only a starting point for investment decisions and that vigorous risk returns analysis is necessary for optimization of returns.
IMPORTANCE & NEED OF STUDY:
Portfolio management or investment helps investors in effective and efficient management of their investment to achieve this goal. The rapid growth of capital markets in India has opened up new investment avenues for investors. The stock markets have become attractive investment options for the common man. But the need is to be able to effectively and efficiently manage investments in order to keep maximum returns with minimum risk.
Hence, this study on “PORTFOLIO MANAGEMENT & INVESTMENT DECISION” to examine the role process and merits of effective investment management and decision.
OBJECTIVES OF STUDY:
- To study the investment decision process.
- To analyze the risk return characteristics of sample scripts.
- Ascertain portfolio weights.
- To construct an effective portfolio which offers the maximum return for minimum risk
METHODOLOGY:
Primary Source:
Information gathered from interacting with Mrs. Swathy in the class room and the data from the textbooks and other magazines.
Secondary Source:
Daily prices of Scripts from news papers.
SCOPE:
- Duration Period : 2 Months
- Sample Size : 5 years
- To ascertain risk, return and weights.
LIMITATIONS:
- Only two samples have been selected for constructing a portfolio.
- Share prices of scripts of 5 years period was taken.
A portfolio is a collection of securities since it is really desirable to invest the entire funds of an individual or an institution or a single security. It is essential that every security be viewed in a portfolio context. Thus, it seems logical that the expected return of the portfolio. Portfolio analysis considers determining of future risk and return in holding various blends of individual securities.
Portfolio expected return is a weighted average of the expected return of the individual securities, but portfolio variance, in short contrast, can be something reduced. Portfolio risk is a risk that depends greatly on the co-variance among returns of individual securities. Portfolios, which are combination of securities, may or may not take on the aggregate characteristics of their individual parts.
Since portfolios expected return is a weighted average of the expected return of its securities, the contribution of each security of the portfolios expected returns depends on its expected returns and its proportionate share of the initial portfolios market value. It follows that an investor who simply wants the greatest possible expected return should hold one security; the one which is considered to have a greatest expected return. Very few investors do this, and very few investment advisors would counsel such an extreme policy. Instead, investors should diversify, which means that their portfolio should include more than one security.
OBJECTIVES OF PORTFOLIO MANAGEMENT:
The main objective of investment portfolio management is to maximize the returns from the investment and to minimize the risk involved in investment. Moreover, risk in price or inflation erodes the value of money and hence, investment must provide a protection against inflation.
Secondary Objectives:
The following are the other ancillary objectives:
- Regular return.
- Stable income.
- Appreciation of capital.
- More liquidity.
- Safety of investment.
- Tax benefits.
Return from the Angle of Securities can be:
1. Fixed Income Securities
- Debentures – Partly-Convertible and Non-Convertible Debentures, Debt with Tradable Warrants
- Preference Shares
- Government Securities and Bonds
- Other Debt Instruments
- Equity Shares
- Money Market Securities like Treasury Bills, Commercial Papers etc.
NEED FOR PORTFOLIO MANAGEMENT:
Portfolio management is a process encompassing many activities of investment in assets and securities. It is a dynamic and flexible concept and involves regular and systematic analysis, judgment and action. The objective of this service is to help the unknown investors with the expertise of professionals in investment portfolio management. It involves construction of a portfolio based upon the investor’s objectives, constraints, preferences for risk, returns and tax liability. The portfolio is reviewed and adjusted from time to time in tune with the market conditions. The evaluation of portfolio is to be done in terms of targets set for risk and returns. The changes in the portfolio are to be effected to meet the changing condition.
Portfolio construction refers to the allocation of surplus funds in hand among a variety of financial assets open for investment. Portfolio theory concerns itself with the principles governing such allocation. The modern view of investment is oriented more go towards the assembly of proper combination of individual securities to form investment portfolio.
A combination of securities held together will give a beneficial result if they are grouped in a manner to secure higher returns after taking into consideration the risk elements.
The modern theory is of the view that by diversification, risk can be reduced. Diversification can be made by the investor either by having a large number of shares of companies in different regions, in different industries or those producing different types of product lines. Modern theory believes in the perspective of combination of securities under constraints of risk and returns
PORTFOLIO MANAGEMENT PROCESS:
Investment management is a complex activity which may be broken down into the following steps:
1. Specification of investment objectives and constraints:
The typical objectives sought by investors are current income, capital appreciation, and safety of principle. The relative importance of these objectives should be specified. Further, the constraints arising from liquidity, time horizon, tax and special circumstances must be identified.
2. Choice of the Asset mix:
The most important decision in portfolio management is the asset mix decision. Very broadly, this is concerned with the proportions of ‘stocks’ (equity shares and units/shares of equity-oriented mutual funds) and ‘bonds’ in the portfolio.
The appropriate ‘stock-bond’ mix depends mainly on the risk tolerance and investment horizon of the investor.
ELEMENTS OF PORTFOLIO MANAGEMENT:
Portfolio management is an on-going process involving the following basic tasks:
- Identification of the investor’s objectives, constraints and preferences.
- Strategies are to be developed and implemented in tune with investment policy formulated.
- Review and monitoring of the performance of the portfolio.
- Finally the evaluation of the portfolio.
Risk is uncertainty of the income / capital appreciation or loss or both. All investments are risky. The higher the risk taken, the higher is the return. But proper management of risk involves the right choice of investments whose risks are compensating. The total risks of two companies may be different and even lower than the risk of a group of two companies if their companies are offset by each other.
SOURCES OF INVESTMENT RISK:
Business Risk:
As a holder of corporate securities (equity shares or debentures), you are exposed to the risk of poor business performance. This may be caused by a variety of factors like heightened competition, emergence of new technologies, development of substitute products, shifts in consumer preferences, inadequate supply of essential inputs, changes in governmental policies and so on.
Interest Rate Risk:
The changes in interest rate have a bearing on the welfare on investors. As the interest rate goes up, the market price of existing firmed income securities falls, and vice versa. This happens because the buyer of a fixed income security would not buy it at its par value or face value if its fixed interest rate is lower than the prevailing interest rate on a similar security. For example, a debenture that has a face value of Rs.100 at a fixed rate of 12% will sell at a discount, if the interest rate moves up from, say 12% to 14%. While the chances in interest rate have a direct bearing on the prices of fixed income securities, they affect equity prices too, albeit some what indirectly.
The two major types of risks are:
- Systematic or market related risk.
- Unsystematic or company related risks.
The unsystematic risks are mismanagement, increasing inventory, wrong financial policy, defective marketing etc. this is diversifiable or avoidable because it is possible to eliminate or diversify away this component of risk to a considerable extent by investing in a large portfolio of securities. The unsystematic risk stems from inefficiency magnitude of those factors different form one company to another.
RETURNS ON PORTFOLIO:
Each security in a portfolio contributes return in the proportion of its investments in security. Thus, the portfolio expected return is the weighted average of the expected return, from each of the securities, with weights representing the proportions share of the security in the total investment. Why does an investor have so many securities in his portfolio? If the security ABC gives the maximum return why not he invests in that security all his funds and thus maximize return? The answer to this questions lie in the investor’s perception of risk attached to investments, his objectives of income, safety, appreciation, liquidity and hedge against loss of value of money etc. This pattern of investment in different asset categories, types of investment, etc., would all be described under the caption of diversification, which aims at the reduction or even elimination of non-systematic risks and achieve the specific objectives of investors.
RISK ON PORTFOLIO:
The expected returns from individual securities carry some degree of risk. Risk on the portfolio is different from the risk on individual securities. The risk is reflected in the variability of the returns from zero to infinity. Risk of the individual assets or a portfolio is measured by the variance of its return. The expected return depends on the probability of the returns and their weighted contribution to the risk of the portfolio. These are two measures of risk in this context; one is the absolute deviation and the other is standard deviation.
Most investors invest in a portfolio of assets, because as to spread risk by not putting all eggs in one basket. Hence, what really matters to them is not the risk and return of stocks in isolation, but the risk and return of the portfolio as a whole. Risk is mainly reduced by Diversification.
RISK RETURN ANALYSIS:
All investments have some risk. Investment in shares of companies has its own risk or uncertainty; these risks arise out of variability of yields and uncertainty of appreciation or depreciation of share prices, losses of liquidity etc.
The risk over time can be represented by the variance of the returns, while the return over time is capital appreciation plus payout divided by the purchase price of the share.
Normally, the higher the risk that the investor takes, the higher is the return. There is, however, a risk less return on capital of about 12% which is the bank rate charged by the Reserve Bank of India or long term yielded on Government Securities at around 13% to 14%. This risk less return refers to lack of variability of return and no uncertainty in the repayment or capital. But other risks such as loss of liquidity due to parting with money etc., may however remain, but are rewarded by the total return on the capital. Risk-return is subject to variation and the objectives of the portfolio manager are to reduce that variability and thus, reduce the risky by choosing an appropriate portfolio.
Traditional approach advocates that one security holds the better, it is according to the modern approach diversification should not be quantity that should be related to the quality of scripts which leads to quality of portfolio.
Experience has shown that beyond certain securities, adding more securities becomes expensive.
SIMPLE DIVERSIFICATION REDUCES:
An asset’s total risk can be divided into systematic plus unsystematic risk, as shown below:
Systematic risk (undiversifiable risk) + unsystematic risk (diversified risk) = Total risk = Var (r).
Unsystematic risk is that portion of the risk that is unique to the firm (for example, risk due to strikes and management errors). Unsystematic risk can be reduced to zero by simple diversification.
Simple diversification is the random selection of securities that are to be added to a portfolio. As the number of randomly selected securities added to a portfolio is increased, the level of unsystematic risk approaches zero. However, market related systematic risk cannot be reduced by simple diversification. This risk is common to all securities.
PERSONS INVOLVED IN PORTFOLIO MANAGEMENT:
Investor:
Investors are the people who are interested in investing their funds.
Portfolio Manager:
He is a person who is in the wake of a contract agreement with a client, advices or directs or undertakes on behalf of the clients, the management or distribution or management of the funds of the client, as the case may be.
Discretionary Portfolio Manager:
He is a Manager who exercises under a contract relating to a portfolio management exercise any degree of discretion as to the investment or management of portfolio or securities or funds of clients, as the case may be.
The relationship between an Investor and Portfolio Manager is of a highly interactive nature:
The Portfolio Manager carries out all the transactions pertaining to the investor under the Power of the Attorney during the last two decades, and increasing complexity was witnessed in the capital market and its trading procedures. In this context, a key (uninformed) investor / informed investor found himself in a tricky situation, to keep track of market movement, update his knowledge, yet stay in the capital market and make money. Therefore, he looks forward to resuming help from portfolio manager to do the job for him. The portfolio management seeks to strike a balance between risks and return.
The generally rule is that greater the risk, more are the profits. But Securities and Exchange Board of India (SEBI) in its guidelines prohibits portfolio managers to promise any return to investor.
Portfolio Management is not a substitute to the inherent risks associated with equity investment.
WHO CAN BE A PORTFOLIO MANAGER?
Only those who are registered and pay the required license fee are eligible to operate as Portfolio Managers. An applicant for this purpose should have necessary infrastructure with professionally qualified persons and with a minimum of two persons with experience in this business and a minimum net worth of Rs.50 lakhs. The Certificate once granted is valid for three years. Fees payable for registration are Rs.2.5 lakhs every for two years and Rs.1 lakh for the third year. From the fourth year onwards, renewal fees per annum are Rs.75000/-. These are subjected to change by the SEBI.
The SEBI has imposed a number of obligations and a Code of Conduct on them. The Portfolio Manager should have a high standard of integrity, honesty and should not have been convicted of any economic offence or moral turpitude. He should not resort to rigging up of prices, insider trading or creating false markets, etc. Their books of accounts are subject to inspection and audit by SEBI. The observance of the code of conduct and guidelines given by the SEBI are subject to inspection and penalties for violation are imposed. The manager has to submit periodical returns and documents as may be required by the SEBI from time-to- time.
FUNCTIONS OF PORTFOLIO MANAGERS:
- Advisory Role:
·Conducting Market and Economic Survey:
This is essential for recommending good yielding securities. They have to study the current fiscal policy, budget proposal, individual policies etc. Further, portfolio manager should take into account the Credit Policy, Industrial growth, Foreign exchange & Possible change in Corporate Laws etc.
·Financial Analysis:
He should evaluate the financial statement of company in order to understand their net worth, future earnings, prospectus and strength.
· Study of Stock Market:
He should observe the trends at various stock exchanges and analyses the scripts, so that he is able to identify the right securities for investment.
· Study of Industry:
He should study the industry to know its future prospects, technical changes etc., required for investment proposal. He should also see the problems of the industry.
· Decide the type of portfolio:
Keeping in mind the objectives of portfolio, a portfolio manager has to decide whether the portfolio should comprise equity / preference shares, debentures (convertibles, non-convertibles or partly convertibles), money market securities etc., or a mix of more than one type of proper mix ensures higher safety, yield and liquidity coupled with balanced risk techniques of portfolio management.
A Portfolio Manager in the Indian context has been Brokers (Big brokers), who on the basis of their experience, market trends, inside trading, helps the limited knowledge persons.
Registered Merchant Bankers can act as Portfolio Managers. Investors must look forward for qualification and performance, and ability and research base of the portfolio manager.
TECHNIQUES OF PORTFOLIO MANAGEMENT:
As of now the under noted techniques of portfolio management are in vague in our country:
- Equity Portfolio:
Among the external factors Changes in the government policies, Trade cycles, Political stability etc.
2. Equity Stock Analysis:
Under this method, the probable future value of a share of a company is determined. It can be done by ratio of earning per share of the company and price earning ratio.
Earnings Per Share = Profit After Tax____
No. of Equity Shares
Price Earnings Ratio = Market Price___________
EPS (Earnings Per Share)
One can estimate the trend of earning by EPS, which reflects trends of earning quality of company, dividend policy, and quality of management. Price earnings ratio indicate a confidence of market about the company future, a high rating is preferable.
The following points must be considered by Portfolio Managers while analyzing the securities:
- Nature of the industry and its product:
2. Industrial Analysis of prospective earnings, cash flows, working capital, dividends etc.
- Ratio Analysis:
The wise principle of Portfolio Management suggests that “Buy when the market is low or BEARISH, and sell when the market is rising or BULLISH”.
Stock market operations can be analyzed by:
- Fundamental approach - based on intrinsic value of shares.
- Technical approach - based on Dow Jones Theory, Random Walk Theory etc.
Prices are based upon demand and supply of the market:
· Traditional approach assumes that
- Objectives are maximization of wealth and minimization of risk.
- Diversification reduces risk and volatility.
- Variable returns, high illiquidity etc.
Diversification of Portfolio reduces risk, but it should be based on certain assessment such as:
Trend Analysis of Past Share Prices:
Valuation of intrinsic value of company (trend-marker moves are known for their uncertainties. They are compared to be high, and low prompts of wave market trends are constituted by these waves it is a pattern of movement based on past).
The following rules must be studied while cautious portfolio manager before decide to invest their funds in portfolios.
a.Compile the financials of the companies for the immediate past 3 years such as turnover, gross profit, net profit before tax, compare the profit earning of company with that of the industry, average nature of product manufacture, services rendered and its future demand know about the promoters and their background, dividend track record, bonus shares in the past 3 to 5 years, reflects company’s commitment to shareholders. The relevant information can be accessed from the ROC (Registrar of Companies) published financial results, financial quarterly results, journals and ledgers.
b Watch out the highs and lows of the scripts for the past 2 to 3 years and their timing cyclical scripts have a tendency to repeat their performance. This hypothesis can be true of all other financials.
c.The higher the trading volume, higher is liquidity and still higher the chances of speculation. It is futile to invest in such shares whose daily movements cannot be kept track. If you want to reap rich returns keep investment over along horizon and it will offset the wild intra day trading fluctuations, the minor movement of scripts may be ignored, we must remember that share market moves in phases and the span of each phase is 6 months to 5 years.
· Long term of the market should be the guiding factor to enable you to invest and quit. The market is now bullish and the trend is likely to continue for some more time.
· Un-tradable shares must find a last place in portfolio apart from return; even capital invested is eroded with no way of exit with inside.
How at all one should avoid such scripts in future?
(1) Never invest on the basis of an insider trader tip in a company which is not sound (insider trader is person who gives tip for trading in securities based on prices sensitive up price sensitive un published information relating to such security).
(2) Never invest in the so called promoter quota of lesser known company.
(3) Never invest in a company about which you do not have appropriate knowledge.
(4) Never invest in a company which doesn’t have a stringent financial record. Your portfolio should not stagnate.
(5) Shuffle the portfolio and replace the slow moving sector with active ones, investors were shatter when the technology, media, software, stops have taken a down slight.
(6) Never fall to the magic of the scripts, don’t confine to the blue chip companies; look out for other portfolio that ensures regular dividends.
(7) In the same way, never react to sudden raise or fall in stock market index such fluctuation is movement minor correction’s in stock market held in consolidation of market thereby reading out a weak player often taste on wait for the dust and dim to settle to make your move.
PORTFOLIO MANAGEMENT AND DIVERSIFICATOIN:
Combinations of securities that have high risk and return features make up a portfolio.
Portfolios may or may not take on the aggregate characteristics of individual part, portfolio analysis takes various components of risk and return for each industry and consider the effort of combined security.
Portfolio selection involves choosing the best portfolio to suit the risk return preferences of portfolio investor management of portfolio is a dynamic activity of evaluating and revising the portfolio in terms of portfolios objectives. It may include in cash also, even if one goes bad the other will provide protection from the loss even cash is subject to inflation the diversification can be either vertical or horizontal. The vertical diversification portfolio can have script of different company’s within the same industry.
In horizontal diversification, one can have different scripts chosen from different industries.
CEMENT INDUSTRY
TEXTILE INDUSTRY
ACC Cement
Reliance Industries
JK Cement
Garden Silk Mills Ltd.
Ultra Tech Cement
NECP Textile
Birla Cement
Bombay Dyeing
Vishnu Cement
Grasim Industries
Priya Cement
Baroda Rayon Corporation
Ramco Cement
Cheslind Textiles Limited
HORIZONTAL DIVERSIFICATION
TISCO (Manufacturing)
ACC Cement (Cement)
Garden Silk Mills Ltd. (Textile)
Infosys Technology Limited (Software)
BSES Power Limited (Power)
Ultra Tech (Construction)
It should be an adequate diversification looking in to the size of portfolio.
Traditional approach advocates that the more security one holds in a portfolio the better it is according to modern approach. Diversification should not be quantified but should be related to the quality of scripts which leads to the quality and portfolio subsequently experience can show that beyond a certain number of securities adding more securities become expensive.
Investment in fixed return securities in the current market scenario, which is passing through an uncertain phase investors are facing the problem of lack of liquidity combined with minimum returns. The important point to both is that the equity market and debt market moves in opposite direction. Where the stock market is booming, equities perform better; whereas in depressed market, the assured returns related securities market out perform equities.
It is cyclic and is evident in more global market keeping this in mind an investor can shift from fixed income securities to equities and vice versa along with the changing market scenario. If the investments are wisely planned, they fetch good returns, even when the market is depressed. More importantly, the investor must adopt the time bound strategy in differing state of market to achieve the optimum result. When the aim is short term returns, it would be wise for the investor to invest in equities when the market is in boom & it could be reviewed if the same is done.
Maximum returns can be achieved by following a composite pattern of investment by having suitable investment allocation strategy among the available resources.
· Never invest in a single security, your investment can be allocated in the following areas:
1. Equities - Primary and Secondary Market.
2. Mutual Funds
3. Bank Deposits
4. Fixed Deposits & Bonds and the Tax Saving Schemes
· The different areas of fixed income are:
1. Fixed Deposits in company
2. Bonds
3. Mutual Funds Schemes.
With an investment strategy to invest in debt investment in fixed deposit can be made for the simple reason that assured fixed income of a high of 14-17% per annum can be expected, which is much safer than investing in a highly volatile stock market, even in comparison to banks deposit which gives a maximum return of 12% per annum, fixed deposits in high profile esteemed will performing companies definitely gives a higher returns.
BETA:
The concept of Beta as a measure of systematic risk is useful in portfolio management. The beta measures the movement of one script in relation to the market trend. Thus BETA can be positive or negative depending on whether the individual scrip moves in the same direction as the market or in the opposite direction and the extent of variance of one scrip vis-à-vis the market is being measured by BETA. The BETA is negative if the share price moves contrary to the general trend and positive if it moves in the same direction. The Scrips with higher BETA of more than one are called Aggressive, and those with a low BETA of less than one are called Defensive.
It is therefore necessary to calculate Betas for all Scrips and choose those with high Beta for a portfolio of high returns.
INVESTMENT DECISIONS:
Definition of Investment:
According to F. AMLING “Investment may be defined as the purchase by an Individual or an Institutional investor of a financial or real asset that produces a return proportional to the risk assumed over some future investment period”. According to D.E. Fisher and R.J. Jordon, Investment is a commitment of funds made in the expectation of some positive rate of return. If the investment is properly undertaken, the return will be commensurate with the risk of the investor assumes”.
Concept of Investment:
Investment will generally be used in its financial sense and as such investment is the allocation of monetary resources to assets that are expected to yield some gain or positive return over a given period of time. Investment is a commitment of a person’s funds to derive future income in the form of interest, dividends, rent, premiums, pension benefits or the appreciation of the value of his principal capital.
Many types of investment media or channels for making investments are available. Securities ranging from risk free instruments to highly speculative shares and debentures are available for alternative investments.
All investments are risky, as the investor parts with his money. An efficient investor with proper training can reduce the risk and maximize returns. He can avoid pitfalls and protect his interest.
There are different methods of classifying the investment avenues. A major classification is Physical Investments and Financial Investments. They are physical, if savings are used to acquire physical assets, useful for consumption or production. Some physical assets like ploughs, tractors or harvesters are useful in agricultural production. A few useful physical assets like cars, jeeps etc., are useful in business.
Many items of physical assets are not useful for further production or goods or create income as in the case of consumer durables, gold, silver etc. among different types of investment, some are marketable and transferable and others are not. Examples of marketable assets are shares and debentures of public limited companies, particularly the listed companies on Stock Exchange, Bonds of P.S.U., Government securities etc. non-marketable securities or investments in bank deposits, provident fund and pension funds, insurance certificates, post office deposits, national savings certificate, company deposits, private limited companies shares etc.
The investment process may be described in the following stages:
Investment Policy:
The first stage determines and involves personal financial affairs and objectives before making investment. It may also be called the preparation of investment policy stage. The investor has to see that he should be able to create an emergency fund, an element of liquidity and quick convertibility of securities into cash. This stage may, therefore be called the proper time of identifying investment assets and considering the various features of investments.
Investment Analysis:
After arranging a logical order of types of investment preferred, the next step is to analyze the securities available for investment. The investor must take a comparative analysis of type of industry, kind of securities etc. The primary concerns at this stage would be to form beliefs regarding future behavior of prices and stocks, the expected return and associated risks.
Portfolio Construction and Feedback:
Portfolio construction requires knowledge of different aspects of securities in relation to safety and growth of principal, liquidity of assets etc. In this stage, we study determination of diversification level, consideration of investment timing selection of investment assets, allocation of invest able wealth to different investments, evaluation of portfolio for feedback.
INVESTMENT DECISIONS –
GUIDELINES FOR EQUITY INVESTMENT
Equity shares are characterized by price fluctuations, which can produce substantial gains or inflict severe losses. Given the volatility and dynamism of the stock market, investor requires greater competence and skill, along with a touch of good luck too, to invest in equity shares. Here are some general guidelines to play to equity game, irrespective of whether you are aggressive or conservative.
- Adopt a suitable formula plan.
- Establish value anchors.
- Assets market psychology.
- Combination of fundamental and technical analyze.
- Diversify sensibly.
- Periodically review and revise your portfolio.
Requirement of Portfolio:
1. Maintain adequate diversification when relative values of various securities in the portfolio change.
2. Incorporate new information relevant for return investment.
3. Expand or contrast the size of portfolio to absorb funds or with draw funds.
4. Reflect changes in investor risk disposition.
Qualities for successful Investing:
· Contrary thinking
· Patience
· Composure
· Flexibility
· Openness
ASSUMPTIONS:
1. Investors consider each investment alternative as being represented by a probability distribution of expected returns over some holding period.
2. Investors maximize one period-expected utility and possess utility curve, which demonstrates diminishing marginal utility of wealth.
3. Individuals estimate risk on the risk on the basis of the variability of expected returns.
4. Investors base their decisions solely on expected return and variance or returns only.
5. For a given risk level, investors prefer high returns to lower return, similarly, for a given level of expected return, investors prefer risk to more risk.
Under these assumptions, a single asset or portfolio of assets is considered to be “efficient”, if no other asset or portfolio of assets offers higher expected return with the same risk or lower risk with the same expected return.
CONSTRUCTION OF THE STUDY:
Purpose of the Study:
The purpose of the study is to find out at what percentage of investment should be invested between two companies, on the basis of risk and return of each security in comparison. These percentages helps in allocating the funds available for investment based on risky portfolios.
Implementation of Study:
For implementing the study, securities or scripts constituting the Sensex market are selected of one month closing share movement price data from the Economic Times and Financial Express from Jan 3rd to 31st Jan 2008
As the study shows the following findings for portfolio construction:
When an Investor would be able to achieve the returns of shares and debentures, resultant portfolio would be known as diversified portfolio. Thus, portfolio construction would address itself to three major concepts viz., selectivity, timing and diversification.
In case of portfolio management, negatively correlated assets are most profitable.
Correlation between BAJAJ & ITC companies are negatively correlated which means both the combinations of portfolios are at good position to gain in future.
Investors may invest their money for the long run, as both the combinations are most suitable portfolios. A rational investor would constantly examine his chosen portfolio both for average return and risk.
CONCLUSIONS
ICICI & HDFC
The combination of ICICI and HDFC gives the proportion of investment is 1.1801 and 0.8199 for ICICI and HDFC based on the standard deviations. The standard deviation for ICICI is 34.846 and for HDFC is 24.88.
Hence the investor should invest their funds more in HDFC when compared to ICICI as the risk involved in HDFC is less than ICICI as the standard deviation of HDFC is less than that of ICICI.
WIPRO & IBM
The combination of WIPRO and IBM gives the proportion of investment is 0.4905 and 0.9497 for WIPRO and IBM based on the standard deviations. The standard deviation for WIPRO is 35.12 and for IBM is 42.6.
Hence the investor should invest their funds more in WIPRO when compared to IBM as the risk involved in WIPRO is less than IBM as the standard deviation of WIPRO is less than that of IBM.
ITC & COLGATE PALMOLIVE
The combination of ITC and COLGATE gives the proportion of investment is 0.0563 and 0.50084 for ITC and COLGATE based on the standard deviations. The standard deviation for ITC is 54.55 and for COLGATE is 22.2.
Hence the investor should invest their funds more in COLGATE when compared to ITC as the risk involved in COLGATE is less than ITC as the standard deviation of COLGATE is less than that of ITC.
CIPLA & RANBAXY
The combination of CIPLA and RANBAXY gives the proportion of investment is 0.49916 and 0.50084 for CIPLA and RANBAXY based on the standard deviations. The standard deviation for CIPLA is 55.22 and for RANBAXY is 55.13. When compared to both the risk is almost same, hence the risk is same when invested in either of the security.
MAHINDRA & MAHINDRA & BAJAJ AUTO
The combination of M&M and BAJAJ AUTO gives the proportion of investment is 1.6206 and 0.6206 for M&M and BAJAJ AUTO based on the standard deviations. The standard deviation for M&M is 104.186 and for BAJAJ AUTO is 54.6
Hence the investor should invest their funds more in BAJAJ AUTO when compared to M&M as the risk involved in BAJAJ AUTO is less than M&M as the standard deviation of BAJAJ AUTO is less than that of M&M.
CONCLUSIONS FOR CORRELATION
In case of perfectly correlated securities or stocks, the risk can be reduced to a minimum point.
