SECURITY ANALYSIS AND PORTFOLIO MANAGEMENT

Prema Manoharan

syllabusUNIT I :Investment - Meaning and process of Investment Management - Speculation -Investment Avenues in India

UNIT II:Risk and Return – Historical and Expected return – Measurement – Risk and its measurement – Systematic and Unsystematic risk – Types – Measurement and significance of Beta.

SYLLABUS – CONTD…UNIT III Security Valuation – Bond, Equity and preference share

valuation – Yield to maturity- Bond value theorems.

UNIT IVFundamental and Technical Analysis – Economy,

Industry and Company analysis – Tools for technical analysis.

 UNIT VPortfolio Selection, performance evaluation and

portfolio revision- Formula plans. – Capital Asset Pricing Model (CAPM)

securities ?security analysis?portfolio?port folio management?

Security A security or financial instrument is a

tradable asset of any kind

Financial instruments are tradable assets such as cash, ownership interest in any asset, contractual rights to receive cash etc

Assets are financial resources – for investment purposes classified as real assets and financial assets

Portfolio ManagementPortfolio - collection of loose sheets in a file

In finance – it means collection of assets held by an institution of by an individual

Basket of stocks

Portfolio management is the art and science of making decisions about the mix of investments

What is investment?Monetary commitment

Sacrifice of present consumption for a return in future

Investment is the employment of funds on assets with the aim of earning income or capital appreciation.

investmentaccording to the economical view - Net

addition made to the nation’s capital stock

according to financial view - Allocation of money to assets that are expected to yield gain in future

Both views are related since individual’s savings are invested in the capital market to be used in economic investment

exercise

Return on investment and capital gain - differentiate

exerciseDifferentiate securities and investment

Differentiate securities and portfolio

speculationTaking up high risk for return in the short span of timeExercise ------------- : Buying a stock for its dividend ----------------: Buying a stock for its anticipated

price rise in near future What are the differences between

investment and speculation?What are the differences between gambling

and speculation?

What is investment management?the professional asset management of securities

and assets such as real estate to meet specified investment objectives of the investors.

Investors may be1. institutions (insurance companies, pension funds, corporations, charities, educational establishments etc.) 2. private investors (both directly via investment contracts and more commonly via collective investment schemes e.g. mutual funds or exchange-traded funds).

exerciseIs there any difference between these terms?

Investment managementAsset managementPortfolio managementWealth managementMoney managementFund Management

Investment process -meaning Steps of activities leading to the purchase of securities

the established operating method according to which fund managers make decisions about which investments to buy and sell.

Investment processes include risk management procedures and may also involve regular meetings of committees that approve each investment.

Process of investment management - 5 steps

1. Framing of investment policy 2. Investment analysis 3. Valuation of securities4. Portfolio construction5. Portfolio evaluation

Flow chart for investment process

Investment policy

Investible fund

Investment objectives

knowledge

analysis

Market

industry

company

valuation

Intrinsic value

Futuristic value

Portfolio constructio

n

diversification

Selection and

allocation

Portfolio evaluation

appraisal

revision

investment policyIn the economic point of view: Government regulation that encourages or discourages foreign investment in India

In individual Point of view: An investment policy outlines and prescribes

a prudent and acceptable individualized investment philosophy

sets out the investment management procedures and long-term goals for the investor.

3 constituents of investment policyInvestible funds – available through savings

or from borrowings?Investment objectives – need for regular

income? Risk perception? Required rate of return?

Knowledge - about the investment alternatives and market in which investments are made

Investment objectivesGrowth and income accompanied by a conservative level of risk

Other objectivesMajor objective:Increasing the rate of return and reducing the riskOther objectives:1. Safety of the funds invested – within the

legal and regulatory frame work2. Liquidity – marketability of the investment3. Hedge against inflation – rate of return

should be higher than the rate of inflation

Investors’ goals and philosophy for investment is based on-Current liquid and net worth -Risk aversion -Investing time horizon -Income levels -Expense levels -Restrictions on security selection

Need for investment policy to identify need to take risk based on

financial objectives and income stability.To establish guidelines for investmentTo create reasonable expectationsTo create the framework for a well-diversified

asset mix to generate acceptable long-term returns at a level of

risk suitable to the InvestorTo describe an appropriate risk posture for the

Investor’s PortfolioTo specify the target asset allocation policy;To diversify assets

Security analysisMarket study – finding the economic scenario

– GDP – inflation rate – monetary policy – capital market’s trend (bull or bear)

stock price fluctuation in the secondary market – is it upward or downwards?Industry analysis – economic significance and

growth potential of the industryCompany analysis - to find the earnings,

profitability, operating efficiency, management, capital structure, functioning

valuation1. Intrinsic value – actual value of the company with reference to fundamental analysis with out reference to the market value

This value may or may not be the same as the current market value. 2. Future value is the value of an asset at a specific date

Portfolio construction

Diversification - reducing risk by investing in a variety of assets1. Selection - Determining the Appropriate Asset Allocation Ascertaining individual financial situation and investment goals is the first task in constructing a portfolio. Age, attitude etc also play role

A second factor to take into account is personality and risk tolerance.2: allocation - Achieving the Portfolio Designed in Step 1 

to divide your capital between the appropriate asset classes (Equities & bonds) as already determined.

further break down the different asset classes into subclasses, which also have different risks and potential returns.

Portfolio evaluationAppraisal – measuring the risk and return of the

portfolio assets and comparing with the market To assess the portfolio's actual asset allocation,

quantitatively categorize the investments and determine their values' proportion to the whole. 

Revision -analyze and rebalance the portfolio periodically because there are factors such as market movements, current financial situation, future needs and risk tolerance are likely to change over time.

Exercise:1. What is Risk return trade-off ?2. Conservative Vs. Aggressive Investors

Some terms related to diversification of assets in portfolio Stock Picking - Choose stocks that satisfy the level of risk you want to carry in the equity portion of your

portfolio - sector, market cap and stock type are factors to consider. Analyze the companies using stock screeners to shortlist potential picks, than carry out more in-depth analyses

on each potential purchase to determine its opportunities and risks going forward. This is the most work-intensive means of adding securities to your portfolio, and requires you to regularly monitor price changes in your holdings and stay current on company and industry news. 

Bond Picking - When choosing bonds, there are several factors to consider including the coupon, maturity, the bond type and rating, as well as the general interest rate environment. 

Mutual Funds - Mutual funds are available for a wide range of asset classes and allow you to hold stocks and bonds that are professionally researched and picked by fund managers. Of course, fund managers charge a fee for their services, which will detract from your returns.Index funds present another choice; they tend to have lower fees because they mirror an established index and are thus passively managed. 

Exchange-Traded Funds (ETFs) - If you prefer not to invest with mutual funds, ETFs can be a viable alternative. You can basically think of ETFs as mutual funds that trade like stocks. ETFs are similar to mutual funds in that they represent a large basket of stocks - usually grouped by sector, capitalization, country and the like - except that they are not actively managed, but instead track a chosen index or other basket of stocks. Because they are passively managed, ETFs offer cost savings over mutual funds while providing diversification. ETFs also cover a wide range of asset classes and can be a useful tool for rounding out your portfolio.