INVESTMENT AND PORTFOLIO

MANAGEMENT
(BBA – SEM -6)
 COURSE CONTENT
Unit 1: Introduction to Investment
1. Basic concept of investment

2. Objectives of investment

3. Characteristics of investment

4. Investment vs. speculation and gambling

5. Investment decision-making process

6. Different investment alternatives and their risk & return profile

Weightage: 15%

Unit 2: Operations of Indian Stock Market

1. Basics of stock market

2. New issue market: IPO, book-building procedure, listing of securities

3. Secondary market: Types of brokers

4. Types of orders

5. Mechanics of investing

6. Objectives and functions of SEBI, NSE, BSE, NSDL

Weightage: 20%

Unit 3: Security Analysis

1. Methods of security analysis

2. Basic theory of Technical Analysis (RSI, MACD)

3. Fundamental Analysis: Economic, Industry, and Company

Weightage: 20%
Unit 4: Introduction to Portfolio Management
1. Meaning of portfolio

2. Meaning of portfolio management

3. Concept of diversification

4. Portfolio management process

5. Portfolio analysis and evaluation: Markowitz Model

6. Sharpe Single Index Model

7. Capital Asset Pricing Model (Theory & Examples)

Weightage: 25%

Unit 5: Mutual Fund – An Investment Avenue

1. Concept of mutual funds

2. Types of mutual funds

3. Benefits of mutual funds

4. NAV

5. Entry and Exit load

6. Risk in mutual funds

7. Flowchart of mutual funds

8. AMCs

9. Basics of Exchange Traded Funds (ETFs)

10. Overview of Systematic Investment Plan (SIP)

Weightage: 20%
 INVESTMENT AND PORTFOLIO MANAGEMENT

UNIT: 1: INTRODUCTION TO
INVESTMENT (15%)
1. BASIC CONCEPT AND DEFINITIONS OF INVESTMENT.

Investment refers to the act of committing funds to assets with the goal of
generating income or capital growth. It involves two main elements: time and
risk. Essentially, investment is the choice to forgo present consumption in hopes
of gaining returns in the future. This decision requires a certain sacrifice today,
although the future return remains uncertain, highlighting the inherent risk in
investments. Investors accept this risk with the anticipation of earning returns.

For the average person, the idea of investment may simply mean a financial
commitment. For instance, buying a home for personal use might be seen as an
investment because it requires money and involves a sacrifice. However, since it
doesn’t produce financial returns, it is not classified as a true investment in the
financial sense.

From an economist’s perspective, investment is defined as an addition to the

nation’s capital stock, which includes goods and services used in the production
process. This might involve new buildings, equipment, or inventory that
contributes to the production of other goods and services.

Financial investment, in contrast, is the allocation of funds to assets expected to

generate returns over time, such as stocks or bonds. These investments are a form
of financial commitment made with the expectation of yielding income and
potentially experiencing capital growth. Financial investments channel individual
savings into the capital market, where they can be used for economic investments.

While financial and economic investments are interconnected, our focus is

primarily on financial investments in securities. In this context, investment can
be defined as the commitment of funds with an expectation of achieving a positive
rate of return. However, since returns are expected in the future, there’s a chance
that actual returns may fall short of expectations. This potential difference
between expected and actual returns represents investment risk. Therefore, all
investments carry both potential returns and associated risks.

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DEFINITIONS:-

Investment is when you put your money into something (like stocks, real estate,
or a business) hoping to make more money in the future. It’s about giving up
some cash now in exchange for the chance to earn a profit later.

The book definition of investment is often stated as:

“Investment is the commitment of funds made in anticipation of a positive rate of

return. It involves the sacrifice of current resources in the hope of future benefits
or profits.”

This definition emphasises that investment requires an initial outlay or sacrifice,

with the aim of generating income or growth in value over time.

Other definition:

Investment is the commitment of funds or resources with the expectation of

earning a return or profit in the future. It involves allocating money, time, or effort
to an asset or venture, with the goal of generating income, capital appreciation,
or other positive returns over a period of time. Investment inherently carries a
level of risk, as future returns are not guaranteed and may vary from the expected
outcome.

2. OBJECTIVES OF INVESTMENT.

I. The main objective of investment is to increase at the rate of return and reduce
the risk.
II. other objectives like

1) Safety
2) Liquidity
3) Return
4) Hedge against inflation
5) tax benefit
6) Risk

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1. Safety: The selected investment should be under the legal and regulatory
Framework. Every investor before investing his money he looked into safety
for his/her investment.

2. Liquidity: Other objectives of investment are liquidity. Liquidity means

easily converted into cash marketability of the investment provides liquidity
to the investment. The liquidity depends upon the marketing and trading
facility.

3. Return: Every investor another objective is excess of investment. Investor

always expects a good rate of return from their investment.

4. Hedge against inflation: Since there is inflation in almost all the economy
the rate of return should ensure a cover against the inflation. The returns rate
should be higher than the rate of inflation.

5. Tax benefit: Tax benefit is on one of important objective of the investor this
allows investor to reduce it taxable amount this is a Economics bonus which
applies to certain investment that are by statute, tax reduced

6. Risk: Risk of hold securities is related with the probability of actual returns
becoming less than the expected returns. The risk is just an as important as
measuring its expected rate of return because minimizing risk and maximizing
the rate of return are interrelated objectives in the investment

3. CHARACTERISTICS OF INVESTMENT.

1. Safety: Safety means protecting the money you’ve invested. Many investors
look for options where their initial money (the principal) is less likely to be
lost. While no investment is 100% safe, some like government bonds are
considered more secure than riskier options, like certain stocks.

2. Earnings: The main goal of investing is to make money over time. Earnings
can come from interest on a bond, dividends from stocks, or the increase in
value of a property or stock (called capital gains). This potential to grow your
money is what makes investment appealing.

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3. Convertibility: Convertibility, or liquidity, is how easily you can turn your

investment back into cash when you need it. Some investments, like stocks,
can be sold quickly, while others, like real estate, might take longer to sell
without a loss. Liquidity is important if you want the option to access your
money easily.

4. Underlying Risk: Every investment carries some risk, which is the chance
that it might not perform as expected, or you might lose money. For instance,
stocks can drop in value, and even seemingly safe investments can sometimes
have risks. Knowing and accepting the level of risk is a crucial part of
investing.

5. Return Potential: Investors expect their money to grow, which we call

returns. The potential return varies by investment type. Typically, higher
returns come with higher risks—like in stocks—while safer investments, such
as bonds, might offer lower returns. Balancing risk and return is key in
investment choices.

6. Economic Impact: Investments don’t just help the investor; they often
contribute to the broader economy. For instance, buying stocks or investing in
a business can support job creation and economic growth, so investments can
have a positive ripple effect.

7. Security of Capital: Investors typically want to ensure that the original

amount they invested remains intact. This is particularly important for
conservative investors who prioritize preserving their principal. Security of
capital helps provide peace of mind that their money is not at high risk of
complete loss.

The “SECURES” acronym covers the essential things most people consider to
make smart and suitable investment decisions, balancing potential gains with
protection and flexibility.

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4. INVESTMENT VS. SPECULATION AND GAMBLING.

Differences between investment, speculation, and gambling in easy-to-

understand terms, with key points and examples for each.

1. Purpose and Mindset

 Investment: The main goal is to grow wealth steadily over time by putting
money into assets like stocks, bonds, or real estate, hoping for stable, long-
term returns.
 Speculation: Here, the aim is to make quick gains by predicting short-term
price movements. This approach often involves higher risk and uncertainty.
 Gambling: In gambling, the purpose is often for entertainment, with a bet
placed in hopes of winning quickly, but with a very high risk of losing money.

Example: Buying a house to sell it in 10 years is investing; buying and quickly

reselling rare coins is speculation; betting on a sports game is gambling.

2. Risk Level

 Investment: Investments typically involve lower risk because they are based
on data and research, though some risk is always present.
 Speculation: Speculation carries a high level of risk, as it often relies on
market timing or unpredictable price swings.
 Gambling: Gambling has the highest level of risk, as outcomes are mostly
luck-based and unpredictable.

Example: Investing in a broad stock market index fund is lower risk; trading
cryptocurrency for fast gains is speculation; betting on a roulette wheel is
gambling.

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3. Decision Basis

 Investment: Decisions are based on research, financial analysis, and long-term

trends, such as a company’s performance.
 Speculation: Decisions are based on market conditions or news that might
cause quick price changes, with less emphasis on long-term trends.
 Gambling: Decisions are mostly guesswork or luck, without a basis in analysis
or research.

Example: Analyzing a company’s earnings before buying its stock is investing;

buying stock based on a sudden news event is speculation; picking numbers in a
lottery is gambling.

4. Time Horizon

 Investment: Investments are generally held over a long period, like years or
decades, to allow for steady growth.
 Speculation: Speculators focus on short-term gains, often buying and selling
assets within days, weeks, or months.
 Gambling: Gambling has an immediate time frame, as bets are typically
placed and resolved quickly.

Example: Saving in a retirement fund is investing; buying stocks with the

intention of selling in a few weeks is speculation; a poker game that’s over in
minutes is gambling.

5. Expectation of Returns

 Investment: Returns are generally expected to be steady but lower, reflecting

the lower risk over the long term.
 Speculation: Expected returns are high, as speculators take on more risk for a
chance at larger gains in a short period.
 Gambling: Returns are highly uncertain, with the odds usually stacked against
the gambler.

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Example: Expecting a modest yearly return from a bond is investing; expecting a

high return from a fast stock trade is speculation; hoping to double money in a
slot machine is gambling.

6. Control Over Outcome

 Investment: Investors have some control by choosing stable, research-backed

options and diversifying their portfolios.
 Speculation: Control is limited, as speculators are often at the mercy of market
volatility and external factors.
 Gambling: No control over the outcome; it’s entirely chance-based.

Example: A diversified portfolio provides some control over risks in investing;

speculation on stocks affected by economic news has less control; gambling on a
dice roll has no control.

7. Examples in Real Life

 Investment: Buying stocks in a stable company like Apple, purchasing real

estate, or investing in mutual funds for the long term.
 Speculation: Day trading in volatile stocks, trading options, or flipping newly
released tech products for quick profit.
 Gambling: Playing blackjack, betting on horse races, or playing the lottery.

In summary, investment focuses on long-term, steady growth, speculation aims

for short-term gains with higher risk, and gambling is about taking a high-stakes
chance with little control. Each has a distinct purpose, risk level, and approach.

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5. INVESTMENT DECISION MAKING PROCESS.

Step 1: Set Investment Policy

This step is about planning and setting goals for the investment. The investor
defines their approach, risk tolerance, and objectives. This policy acts like a
blueprint, guiding decisions and setting boundaries for what types of investments
to pursue.

Key parts of the investment policy:

 Mission Statement: Defines the purpose of the investment.

 Risk Tolerance: Understands how much risk the investor is willing to take.
 Investment Objectives: Sets clear goals, like growth, income, or a mix of both.
 Policy Asset Mix: Decides on the allocation of funds to different assets like
stocks and bonds.
 Active Management: Determines whether the investments will be actively
managed or passively followed.

Step 2: Perform Security Analysis

In this step, the investor analyzes different securities (such as stocks, bonds, etc.)
to identify the ones that fit their goals and offer fair returns.

This analysis includes:

 Economic Analysis: Understanding overall economic trends.

 Industry Analysis: Studying specific industries to find profitable sectors.
 Company Analysis: Looking at individual companies to assess their potential.

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There are two main approaches:

 Fundamental Analysis: Examines financial statements, earnings, and growth

potential.
 Technical Analysis: Looks at stock price trends and market patterns.

Step 3: Construct the Portfolio

The investor now builds their portfolio by choosing the specific assets and
deciding how much to allocate to each. The focus here is on selectivity (choosing
the best assets), timing (when to buy), and diversification (spreading risk across
different assets).

Approaches to portfolio construction:

 Traditional Approach: Focuses on balancing income and growth.

 Modern Approach: Uses models like Markowitz Risk-Return Optimization
and Sharpe’s Optimal Portfolio Model to balance risk and return.

Step 4: Portfolio Revisions

Over time, investments might need adjustments. This step is about updating the
portfolio by selling assets that aren’t performing well and buying new ones. It’s
a regular review to keep the portfolio aligned with goals and market conditions.

Some strategies used in revisions:

 Aggressive Portfolio: Higher risk for potentially higher returns.

 Conservative Portfolio: Lower risk with steadier, safer returns.
 Formula Plans: Help manage timing and emotional decisions in investing,
with approaches like:
 Constant Rupee Plan: Invests a fixed amount regularly.
 Constant Ratio Plan: Keeps a fixed ratio of different assets.
 Variable Ratio Plan: Adjusts ratios based on market performance.

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 Rupee Cost Averaging: Invests fixed amounts over time, reducing risk by
averaging costs.

Step 5: Evaluate Portfolio Performance

Finally, the investor evaluates how well the portfolio is performing in terms of
returns and risks. This is usually done by comparing the portfolio’s performance
against a benchmark.

Performance measures include:

 Sharpe’s Performance Measure: Assesses return per unit of risk.

 Treynor’s Performance Measure: Similar to Sharpe’s but uses a different risk
measure.
 Jensen’s Performance Measure: Compares actual returns to expected returns,
considering risk.

This evaluation helps the investor decide if changes are needed and ensures
they’re on track to meet their investment goals.

6. DIFFERENT INVESTMENT ALTERNATIVES AND THEIR RISK &

RETURN PROFILE.

1. Savings Accounts

Description: Savings accounts are offered by banks and post offices, allowing
individuals to deposit their money while earning a small amount of interest. They
are easy to open, and you can withdraw money anytime, making them ideal for
emergency funds or short-term savings.

Risk: Savings accounts are considered very low-risk because deposits are insured
by the government up to ₹5 lakh, meaning your money is safe even if the bank
faces financial difficulties.

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Return: The interest rates for savings accounts typically range from 2.5% to 4%
per year. While this is safe, it often doesn’t keep pace with inflation, so the real
value of your savings may decrease over time.

2. Fixed Deposits (FDs)

Description: Fixed deposits involve depositing a lump sum amount with a bank
for a fixed tenure, usually ranging from a few months to several years, at a
predetermined interest rate. It’s a popular choice for conservative investors
seeking guaranteed returns.

Risk: Like savings accounts, FDs are low-risk, with deposits also insured up to
₹5 lakh.

Return: You can expect interest rates from 5% to 8%. FDs provide better returns
than savings accounts, but you generally cannot access your funds before the term
ends without incurring penalties.

3. Public Provident Fund (PPF)

Description: The PPF is a long-term savings scheme backed by the government,

designed to promote savings for retirement. It has a minimum investment term of
15 years, making it suitable for long-term financial planning.

Risk: PPF is very safe since it’s government-backed, providing security for your
investment.

Return: The interest rate for PPF is around 7.1% per year, and the returns are
tax-free. This combination of safety, decent returns, and tax benefits makes it a
popular choice among savers.

4. Bonds

Description: Bonds are essentially loans that you provide to governments or

corporations, and in return, they pay you periodic interest and return your
principal at maturity. They come in various forms, including government bonds,
corporate bonds, and tax-free bonds.

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Risk: Government bonds are typically low-risk, while corporate bonds may carry
higher risks depending on the issuing company’s creditworthiness.

Return: Government bonds generally yield about 6% to 7%, while corporate

bonds can offer returns ranging from 8% to 10%. Higher yields usually indicate
greater risk.

5. Stocks

Description: Investing in stocks means purchasing shares of publicly traded

companies, allowing you to own a part of the business. This investment is suitable
for those looking for potential capital appreciation and dividends over time.

Risk: Stocks are more volatile compared to other investments, meaning their
prices can fluctuate significantly due to market conditions, company
performance, and economic factors.

Return: Historically, stocks have provided average returns of around 12% to

15% over the long term, making them a solid option for wealth accumulation.
However, it’s essential to be prepared for the possibility of short-term losses.

6. Mutual Funds

Description: Mutual funds pool money from multiple investors to create a

diversified portfolio of stocks, bonds, or other securities. They are managed by
professional fund managers who make investment decisions on behalf of
investors.

Risk: The risk associated with mutual funds varies based on their composition.
Equity mutual funds are generally riskier due to stock market volatility, while
debt mutual funds are considered safer.

Return: Equity mutual funds can offer returns of 10% to 15%, while debt funds
may provide 5% to 8%. Some funds also offer tax benefits under Section 80C of
the Income Tax Act, making them an attractive option for investors looking to
save on taxes.

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7. Exchange-Traded Funds (ETFs)

Description: ETFs are similar to mutual funds but trade on stock exchanges like
individual stocks. They often track specific indexes, such as the Nifty 50 or
Sensex, and provide an easy way to invest in a diversified portfolio.

Risk: The risk profile of ETFs depends on the underlying assets they hold, which
can range from low to high depending on whether they focus on stocks or bonds.

Return: Typically, ETFs yield returns similar to the index they track, often
around 10% to 12%. They offer liquidity and flexibility, allowing investors to
buy and sell throughout the trading day.

8. Real Estate

Description: Real estate investment involves purchasing property, such as

residential or commercial buildings, with the intention of generating rental
income or capital appreciation over time.

Risk: The real estate market can be subject to fluctuations based on economic
conditions, location, and market demand. It is also less liquid, meaning properties
can take time to sell.

Return: Real estate can yield returns ranging from 8% to 15%, especially in
growing urban areas. It’s often considered a good hedge against inflation, but it
requires a significant initial investment and ongoing management.

9. Gold

Description: Investing in gold can be done through physical gold, gold ETFs, or
sovereign gold bonds. Gold has traditionally been viewed as a safe-haven asset
in India, especially during economic uncertainty.

Risk: While generally stable, gold prices can fluctuate based on market
conditions, making it less predictable than fixed-income investments.

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Return: Over the long term, gold has historically provided returns of around
10%. Its value often rises during times of economic instability, making it a
valuable addition to a diversified portfolio.

10. Cryptocurrencies

Description: Cryptocurrencies like Bitcoin, Ethereum, and others are digital

assets that use blockchain technology. They have gained popularity in recent
years as alternative investments.

Risk: Cryptocurrencies are highly speculative and can experience extreme

volatility, with prices swinging dramatically within short periods.

Return: Potential returns can be substantial, with some investors reporting gains
of over 100%. However, many have also faced significant losses due to market
fluctuations, making them suitable only for risk-tolerant investors.

Conclusion

In India, investors have a wide range of options to choose from, each with its own
unique risk and return profile. Understanding these investment alternatives can
help you make informed decisions that align with your financial goals, risk
tolerance, and investment horizon. A well-balanced, diversified portfolio can
mitigate risk while aiming for better returns over time, ultimately supporting your
financial growth and stability.

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UNIT: 2: OPERATIONS OF INDIAN

STOCK MARKET (20%)

1. BASICS OF STOCK MARKET.

Basics of Stock Market

The stock market is a platform where shares of publicly listed companies are
bought and sold. It plays a crucial role in the economy, providing companies with
access to capital to fund expansion, projects, and other growth initiatives while
offering investors an opportunity to own a stake in these companies and
potentially earn returns on their investments. The two primary stock exchanges
in India are the Bombay Stock Exchange (BSE) and the National Stock
Exchange (NSE).

Key Concepts in the Stock Market:

1. Stock: A stock represents ownership in a company. When you buy a stock,

you own a part of that company. Stocks are also referred to as equities or
shares.
2. Stock Exchange: A stock exchange is a regulated marketplace where stocks
are bought and sold. The two major stock exchanges in India are:

BSE (Bombay Stock Exchange): Established in 1875, BSE is one of the

oldest stock exchanges in Asia.

NSE (National Stock Exchange): Founded in 1992, NSE is known for its
electronic trading system and the popular Nifty 50 index.

3. Initial Public Offering (IPO): When a company offers its shares to the public
for the first time, it is called an IPO. This is how a private company becomes
a publicly listed company.
4. Market Indices: Indices measure the performance of a group of stocks,
reflecting the overall market sentiment. In India, the major indices are:

Sensex: The benchmark index of BSE, comprising 30 of the largest and most
actively traded stocks.

Nifty 50: The benchmark index of NSE, consisting of 50 major companies

from different sectors.

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5. Bull Market and Bear Market:

Bull Market: A period characterized by rising stock prices, investor

optimism, and positive economic indicators.

Bear Market: A period of declining stock prices, often accompanied by

pessimism and economic downturn.

6. Stock Broker: A stock broker is a licensed professional or firm that facilitates

buying and selling stocks on behalf of investors in exchange for a commission.
7. Demat Account: A Dematerialized (Demat) account is used to hold shares in
electronic form. It is essential for trading in the stock market.
8. SEBI (Securities and Exchange Board of India): The regulatory authority
responsible for overseeing the functioning of the stock market in India,
ensuring transparency and protecting investor interests.

Classification of the Indian Stock Market

The Indian stock market can be categorized based on different factors:

1. Based on Market Structure

Primary Market (New Issue Market) The primary market is where new
securities are issued, like IPOs, to raise funds directly from investors. Key
instruments include equity shares, bonds, and preference shares. For example,
when LIC launches its IPO, it does so in the primary market.

Secondary Market (Stock Exchange) The secondary market is where existing

securities are traded among investors, providing liquidity. Key stock exchanges
in India are the BSE (established in 1875) and NSE (established in 1992). For
example, trading shares of Reliance or TCS on NSE/BSE.

2. Based on Market Segmentation

Capital Market This segment deals with long-term investments like stocks and
bonds. It includes the equity market (for shares) and the debt market (for bonds).

Money Market The money market focuses on short-term financial instruments

with maturities of less than one year, such as Treasury bills, commercial papers,
and certificates of deposit.

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3. Based on Type of Securities

Equity Market The equity market is where company shares are traded. Common
shares provide ownership and voting rights, while preferred shares offer fixed
dividends without voting rights.

Derivatives Market This market involves trading contracts like futures and
options for hedging risks or speculating. Key products include stock futures and
index options.

Debt Market The debt market deals with fixed-income securities like
government and corporate bonds.

4. Based on Nature of Transactions

Cash Market (Spot Market) in the cash market, securities are bought and sold
for immediate delivery with quick settlement, typically within two days.

Forward and Futures Market This market involves contracts to buy or sell
securities at a future date at a pre-determined price.

5. Based on Investors

Domestic Institutional Investors (DII) These are Indian institutions like mutual
funds and insurance companies that invest in the stock market. Examples include
LIC and SBI Mutual Fund.

Foreign Institutional Investors (FII) These are foreign entities, such as hedge
funds and investment banks, investing in Indian stocks. Examples include
Goldman Sachs and Morgan Stanley.

6. Based on Geographical Reach

National Market This refers to trading within India's major stock exchanges like
BSE and NSE.

International Market The international market includes cross-border trading,

such as ADRs (Indian companies listed in the U.S.) and GDRs (listed in European
exchanges).

Conclusion

The Indian stock market provides diverse opportunities across various platforms,
from short-term money market instruments to long-term equity investments.

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Understanding its classifications helps investors make better investment

decisions and optimize their strategies.

2. MEANING AND FUNCTIONS OF NEW ISSUE MARKET.

Meaning of New Issue Market

The New Issue Market, also known as the Primary Market, is where new
securities are issued and sold to investors for the first time. This market plays a
crucial role in helping companies raise fresh capital directly from the public to
fund new projects, expand operations, or reduce debt. Unlike the Secondary
Market, where existing shares are traded, the New Issue Market focuses on the
initial sale of financial instruments such as shares, bonds, and debentures.

The primary market is essential for capital formation in the economy, providing
companies with the necessary funds to grow, while also offering investors the
opportunity to purchase securities at their issuance price, potentially gaining
higher returns.

Functions of the New Issue Market

The New Issue Market involves several critical functions to ensure the smooth
issuance of new securities. These include Origination, Underwriting, and
Distribution, which collectively facilitate the process of bringing new securities
to market.

1. Origination

 Meaning: Origination is the initial stage of the process where a company plans
to issue new securities. This function involves assessing the feasibility of the
issue, determining the type of security (equity, debt, etc.), and deciding the
amount of capital to be raised.
 Key Activities:

Project Evaluation: Investment banks and financial experts assess the

company’s projects to determine if raising capital through new issues is viable.

Regulatory Compliance: Ensuring the company meets all legal and

regulatory requirements set by the Securities and Exchange Board of India
(SEBI).

Preparation of Prospectus: Drafting a detailed prospectus that provides

potential investors with information about the company's financial health,
business plans, and risks associated with the investment.
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 Objective: The goal of origination is to prepare the company for a successful

launch of its new securities, ensuring a smooth entry into the market.

2. Underwriting

 Meaning: Underwriting is the process by which an underwriter (usually a

financial institution or investment bank) guarantees the purchase of a certain
number of shares or bonds being issued. This function provides assurance to
the issuing company that the securities will be sold, even if there is insufficient
demand from the public.
 Key Activities:

Risk Assessment: Underwriters evaluate the risk associated with the issuance
and set the issue price accordingly.

Commitment: The underwriter may take up Firm Commitment (buying the

entire issue) or Best Effort (selling as much as possible without a full
guarantee).

Stabilizing Prices: By purchasing unsold shares, underwriters help stabilize

the market price of new securities, preventing sharp declines.

 Objective: The main goal of underwriting is to reduce the risk for the issuing
company, ensuring a successful fundraising effort.

3. Distribution

 Meaning: Distribution is the final stage of the new issue process, where
securities are sold to the public, institutional investors, or other buyers. It
involves marketing and selling the new securities to generate interest and
attract buyers.
 Key Activities:

Retail and Institutional Sales: Securities are distributed through channels

like retail brokers, institutional sales desks, and online platforms.

Book-Building: This method is used to determine the issue price based on

investor demand collected during a specified period.

Allotment and Listing: After the sale, securities are allotted to investors, and
the company’s shares are listed on stock exchanges, making them available
for trading in the secondary market.

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 Objective: The primary goal of distribution is to ensure that the securities

reach a broad audience, maximizing the company’s capital raised.

Conclusion

The New Issue Market is vital for companies looking to raise fresh capital and
for investors seeking new opportunities. The three main functions Origination,
Underwriting, and Distribution work together to ensure that new securities are
successfully brought to the market, benefiting both the issuing companies and the
investing public.

3. EXPLAIN IN DETAIL IPO [INITIAL PUBLIC OFFERINGS].

An Initial Public Offering (IPO) is the process by which a private company

offers its shares to the public for the first time, thereby becoming a publicly traded
company. It is a significant event for any business as it marks its transition from
a privately held entity to a publicly listed one. In India, IPOs are regulated by the
Securities and Exchange Board of India (SEBI), which ensures transparency,
fairness, and protection of investor interests.

Process of IPO in the Indian Stock Market

The IPO process in India involves several steps to ensure a successful public
offering:

1. Appointing Key Advisors

 The company appoints investment banks, financial advisors, and underwriters

who play a critical role in managing the IPO process.
 These advisors help the company prepare for the IPO, set the issue price, and
navigate regulatory requirements.

2. Filing a Draft Red Herring Prospectus (DRHP)

 The company must file a Draft Red Herring Prospectus (DRHP) with SEBI,
which contains detailed information about the company’s financial
performance, business model, risks, and how the raised funds will be used.
 SEBI reviews the DRHP to ensure that the company meets all regulatory
norms and provides transparent information to potential investors.

3. SEBI Approval

 After reviewing the DRHP, SEBI may approve the IPO, ask for modifications,
or reject it if compliance requirements are not met.
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 Once approved, the company can proceed with the IPO and release a final
prospectus.

4. Pricing the IPO

 Fixed Price Method: A pre-determined price is set for the IPO shares.
 Book-Building Process: A price band is set (e.g., ₹100 to ₹120 per share),
and investors place bids within this range. The final issue price is determined
based on the demand from investors.

5. Subscription Period

 The IPO is open for subscription by investors (both retail and institutional) for
a few days, typically 3 to 5 days.
 Investors can apply for shares through their Demat accounts, using platforms
like ASBA (Application Supported by Blocked Amount) to block the
application money until the shares are allotted.

6. Allotment of Shares

 After the subscription period, shares are allotted to investors based on demand.
If an IPO is oversubscribed (more demand than available shares), the
allotment may be done on a proportional or lottery basis.
 Oversubscription indicates high investor interest, while undersubscription
may lead to price adjustments or even the withdrawal of the IPO.

7. Listing on Stock Exchanges

 Once shares are allotted, the company lists its stock on exchanges like the BSE
and NSE.
 The shares start trading on the stock exchange, allowing investors to buy and
sell them in the secondary market.

Types of IPO Investors

Retail Investors: Individual investors who can apply for shares in small lots,
usually up to ₹2 lakhs.

Non-Institutional Investors (NIIs): High-net-worth individuals (HNIs) who

apply for larger lots, above ₹2 lakhs.

Qualified Institutional Buyers (QIBs): Large institutions like mutual funds,

banks, and insurance companies that invest significant amounts.

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Benefits of an IPO

1. Access to Capital: Helps companies raise significant funds for expansion and
growth.
2. Increased Visibility: Listing on a stock exchange boosts the company’s
profile and credibility in the market.
3. Liquidity for Shareholders: Early investors and promoters can partially exit
their investments and realize profits.
4. Employee Incentives: Companies can offer stock options to attract and retain
top talent.

Risks Associated with IPOs

1. Market Volatility: Stock prices can fluctuate significantly after listing due to
market conditions.
2. Regulatory Compliance: Public companies must comply with stringent
reporting and disclosure norms, increasing operational costs.
3. Ownership Dilution: Original owners may lose a portion of control over the
company after going public.

Recent Popular IPOs in India

 LIC IPO: The largest IPO in India's history, raising around ₹21,000 crores in
2022.
 Zomato IPO: Attracted significant attention in 2021, marking a major entry
of tech startups into the Indian stock market.
 Nykaa IPO: The beauty and wellness e-commerce platform successfully
listed in 2021, with a strong debut on the NSE.

Conclusion

An IPO is a pivotal event for any company looking to grow and expand. While it
offers access to significant capital and enhances visibility, it also comes with
challenges like market volatility and compliance requirements. Understanding
the IPO process can help investors make informed decisions, whether they are
looking to participate in newly issued shares or diversify their portfolios.

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4. BOOK BUILDING PROCEDURE.

The book building process is a popular method used by companies when they are
issuing shares to the public, especially during an Initial Public Offering (IPO).
This process helps companies determine the right price at which their shares
should be offered.

1. Appointment of Merchant Banker (Lead Manager):

The first step in the book building process is for the company to hire a
merchant banker or lead manager. These are specialized financial
institutions that handle the entire IPO process for the company. Their role
includes drafting the prospectus, deciding the timing of the issue, and
determining the price of the shares. A company can hire more than one
merchant banker, but all must be registered with the Securities and Exchange
Board of India (SEBI).

2. Deciding on Number of Securities and Price Band:

After hiring the merchant banker, the company decides on the price band for
the IPO. This means setting a floor price (the lowest price) and a cap price (the
highest price) at which the shares will be offered. Investors can bid for shares
within this range. The price band is usually set based on a credit rating
provided by a rating agency.

3. Appointment of Syndicate Members:

The company then appoints syndicate members, which are broking houses
responsible for distributing IPO application forms to potential investors. They
also collect the filled-out forms and submit the details to the stock exchange.
Like merchant bankers, syndicate members must also be registered with SEBI.

4. Appointment of Collecting Banks:

To manage the flow of money, the company appoints collecting banks. These
are scheduled banks registered with SEBI, and they handle collecting
applications with payments from investors. They are responsible for keeping
a daily report and transferring the collected funds to the company’s account.

5. Appointment of Underwriters:

Underwriters are financial institutions that provide a guarantee to the company

that their shares will be sold. If the public doesn’t buy all the shares, the

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underwriter agrees to purchase the remaining shares. Having underwriters is

compulsory for an IPO, and the company can appoint more than one.

6. Opening the Bid:

After completing all formalities, the company opens the bidding process for
the public. This usually lasts for at least 5 working days. Investors can apply
for a minimum number of shares by submitting an application form along with
the payment within this period.

7. Revision of Bids:

If an investor wants to change their bid (either the price or the number of
shares), they are allowed to do so before the bid period closes.

8. Closing of Book:

At the end of the bidding period, the book runners (the lead managers) close
the book. They review all the bids received and reject any applications that are
incomplete or incorrect. The rest are sent to the Registrar of the Company
for further processing.

9. Deciding the Final Price:

The Registrar analyzes all valid applications and determines the final issue
price based on the demand at various price levels.

10.Allocation of Shares:

Once the final price is decided, shares are allocated to investors. If the issue is
oversubscribed (more applications than available shares), the shares are
allocated on a pro-rata basis (proportional allocation). If the issue is
undersubscribed (fewer applications than available shares), the underwriters
step in to buy the remaining shares.

11.Refund of Money:

If the IPO is oversubscribed, not all investors will get the number of shares
they applied for. The shares are allotted on a pro-rata basis, and any extra
money paid by investors is refunded. The shares allotted are directly
transferred to the investor's Demat account.

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Additional Notes on Lead Managers:

Lead managers, also known as investment bankers, are independent financial

institutions that companies hire to manage their IPOs. They play a crucial role in
organizing roadshows, creating the draft offer document, getting approval from
SEBI and stock exchanges, and finally, helping the company list its shares on the
stock market.

Large IPOs might have multiple lead managers, including Book Running Lead
Managers (BRLM) and Co-Book Running Lead Managers.

This entire process helps ensure a fair and transparent way of pricing shares and
distributing them to investors, making it a preferred method for companies going
public.

5. LISTING OF SECURITIES,

When a company decides to raise money by offering its shares to the public, it
often aims to list those shares on a stock exchange. Listing means officially
including a company's shares in the stock exchange for trading. Here's a simple
breakdown of how this process works and its benefits:

How Listing Works:

1. Application for Listing:

Before a company can list its shares on a stock exchange, it must submit an
application to the exchange. This application must be filed before the
company issues its official prospectus (a document detailing the company's
finances and the terms of the share issue) or an offer for sale (if selling
existing shares).

The company must follow all the rules specified in the Companies Act, SEBI
(Securities and Exchange Board of India) regulations, and any additional rules
of the stock exchange.

2. Submission of Important Documents:

Along with the application, the company needs to provide several important
documents, such as:

 Memorandum of Association (a document outlining the company’s

purpose)
 Articles of Association (rules for the company's operation)
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 Prospectus, annual accounts, and reports from directors.

The company must also share details about its business activities, capital
structure, and distribution of shares, including dividends and bonus shares
issued.

3. Review by Stock Exchange:

The stock exchange will review the application and documents to ensure the
company meets all the requirements for listing.

If approved, the company must sign a listing agreement with the stock
exchange, outlining its obligations and responsibilities. The company also has
to pay an annual listing fee.

4. Ongoing Obligations:

Once listed, the company must regularly update the stock exchange about any
major events or changes that could affect its share price. This includes sending
audited annual accounts to the exchange.

Benefits of Listing on the NSE (National Stock Exchange):

1. Premier Marketplace:

NSE is the largest stock exchange in India, handling over 74% of the total
trading volume in the Indian securities market. This means more buyers and
sellers, resulting in higher liquidity and lower trading costs.

2. Increased Visibility:

Companies listed on NSE gain high visibility among investors. The trading
system displays the top 5 buy and sell orders, along with the total number of
shares available for trading. It also shows corporate announcements, financial
results, and other important updates.

3. Nationwide Reach:

NSE’s trading platform is accessible across India, using advanced

communication technology. This ensures that investors from all parts of the
country can easily trade in listed shares.

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4. Modern Technology and Infrastructure:

NSE uses a fully automated, screen-based trading system with high-speed

connectivity. Trading terminals are connected through VSAT (satellite
communication) and leased lines, ensuring a reliable and efficient trading
experience.

5. Fast Transaction Speed:

The speed of processing orders on the NSE results in better prices and more
liquidity. This means that investors can buy and sell shares quickly, often
getting the best available prices.

6. Short Settlement Cycle:

NSE follows a T+2 settlement cycle, which means that trades are settled
within two business days. This is in line with international standards and
ensures that transactions are completed quickly.

7. Corporate Announcements Broadcast:

The NSE uses its network to broadcast important company announcements

and financial updates nationwide. This transparency helps prevent price
manipulation and keeps investors informed.

8. Monthly Trade Statistics:

Listed companies receive detailed monthly trade statistics, helping them

understand how their shares are being traded on the exchange.

9. Investor Service Centers:

NSE has set up Investor Service Centers across the country to help investors
with their queries and concerns.

6. MEANING AND DEFINITION OF SECONDARY MARKET

The secondary market is where investors buy and sell shares, bonds, and other
securities that are already issued and listed on stock exchanges like the NSE
(National Stock Exchange) or BSE (Bombay Stock Exchange). This is different
from the primary market, where companies sell new shares directly to investors
for the first time through an IPO (Initial Public Offering).

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In the secondary market, you're not buying shares directly from the company.
Instead, you're buying them from other investors who already own those shares.
For example, if you buy a share of Reliance Industries on the stock exchange,
you're buying it from another investor who wants to sell their shares.

Book Definition of Secondary Market:

According to financial textbooks, the secondary market is defined as: "A market
where existing securities are bought and sold among investors after being
initially offered to the public in the primary market and/or listed on the Stock
Exchange."

In essence, the secondary market is like a second-hand shop for stocks and other
financial instruments. It's a place where you can trade shares that have already
been issued, allowing you to invest in companies without needing to participate
in their initial offerings.

7. TYPES OF BROKERS.

In the stock market, brokers act as intermediaries who facilitate the buying and
selling of securities on behalf of investors. There are different types of brokers,
each offering varying levels of services, costs, and convenience. Here’s an
overview of the main types of brokers:

1. Full-Service Brokers:

 Description: Full-service brokers provide a wide range of services including

investment advice, research reports, portfolio management, retirement
planning, and tax advice. They often offer personalized service to investors.
 These brokers typically charge higher commissions due to the comprehensive
services they offer. They might also help you choose stocks or other securities
based on your financial goals.
 Examples: ICICI Direct, HDFC Securities, Kotak Securities.
 Best for: Investors who need advice and guidance or are new to investing and
prefer to rely on expert recommendations.

2. Discount Brokers:

 Description: Discount brokers offer the basic services necessary for trading
but without the extra features provided by full-service brokers. They typically
do not offer personalized investment advice or research reports.
 These brokers provide a platform for investors to buy and sell securities at
much lower commission rates than full-service brokers.
 Examples: Zerodha, Upstox, Groww.
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 Best for: Investors who are comfortable making their own investment
decisions and are looking for cost-effective trading options.

3. Online Brokers:

 Description: Online brokers allow investors to trade securities via online

platforms and mobile apps. They typically fall under the discount broker
category but focus entirely on digital trading.
 Investors can open an account, deposit funds, and place orders all online.
Online brokers provide easy access to the markets but may not offer much in
terms of customer support or research.
 Examples: Zerodha, Robinhood, E*TRADE.
 Best for: Tech-savvy investors who prefer managing their investments online
and want low fees.

4. Institutional Brokers:

 Description: These brokers are involved in large-scale trading, often for

institutions like mutual funds, hedge funds, or pension funds. They handle
large orders that individual investors cannot.
 Institutional brokers deal with institutional clients who trade in large volumes.
They may have access to better market insights, sophisticated trading systems,
and lower trading costs.
 Examples: Goldman Sachs, Morgan Stanley, JP Morgan.
 Best for: Large investors or institutions dealing in bulk securities and
requiring specialized services.

5. Direct Market Access (DMA) Brokers:

 Description: DMA brokers allow clients to directly access the stock market
without going through a traditional broker. They provide the tools for high-
frequency trading and other advanced trading strategies.
 DMA brokers typically provide trading platforms where clients can place
orders directly into the market. These brokers often charge lower
commissions, but they cater to advanced traders who have experience.
 Examples: Interactive Brokers, Lightspeed Trading.
 Best for: Experienced traders who want direct access to the market and use
automated or high-frequency trading strategies.

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6. Commodity Brokers:

 Description: Commodity brokers specialize in buying and selling

commodities like gold, oil, agricultural products, and other raw materials on
exchanges like MCX (Multi Commodity Exchange).
 Commodity brokers offer specialized services in commodity trading and are
regulated to ensure fair trading. They may also offer futures and options
trading on commodities.
 Examples: Angel Commodities, Motilal Oswal Commodities.
 Best for: Investors interested in trading commodities or seeking to diversify
their portfolio beyond stocks.

7. Forex Brokers:

 Description: Forex brokers facilitate the buying and selling of currencies in

the foreign exchange (forex) market.
 These brokers provide platforms for trading currency pairs like USD/EUR,
GBP/USD, etc. Forex brokers often offer leverage, allowing traders to control
a larger position with a smaller amount of capital.
 Examples: OANDA, Forex.com, IC Markets.
 Best for: Traders interested in currency markets and looking to speculate on
price movements in global currencies.

8. TYPES OF ORDERS.

When buying or selling stocks, there are various conditions you can set to control
how your order is executed. These conditions fall under time, quantity, and price
categories.

A) Time Conditions:

1. Day Order:

 This order is only valid for the day it's placed. If it doesn't get executed by the
end of the day, it's automatically canceled.

2. Good Till Cancelled (GTC):

 This order stays active until you manually cancel it. It doesn't expire
automatically.

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3. Good Till Days (GTD):

 You can set this order to stay active for a specific number of days. If it’s not
executed within that timeframe, it gets canceled.

4. Immediate or Cancel (IOC):

 This order is executed immediately. If it can’t be executed as soon as it’s

entered, it gets canceled right away.

B) Quantity Conditions:

1. Disclosed Quantity (DQ):

 You can choose to show only part of your order to the market. For example,
if you want to buy 50,000 shares but disclose only 10,000 shares, the market
will only see 10,000 shares at a time. Once these are bought, another 10,000
are shown, and so on.

2. Minimum Fill (MF):

 This order requires a minimum quantity to be traded at once. For instance, if

your total order is for 10,000 shares but you set the minimum fill as 2,000
shares, then your order will only execute if at least 2,000 shares are available
to trade at once. If not, the order will be canceled.

3. All or None (AON):

 The entire order must be executed in one go, or not at all. For example, if you
want to buy 20,000 shares with an AON condition, all 20,000 shares must be
traded at once; otherwise, the order won’t be executed.

C) Price Conditions:

1. Stop-Loss Order:

 This order protects you from big losses by setting a "trigger" price. For
example, if you own a stock currently priced at ₹60, you can set a stop-loss
buy order with a trigger price of ₹63. If the market price hits ₹63, your order
will automatically be placed to buy shares up to a limit price, say ₹65.

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2. Market Order:

 This is an order to buy or sell a stock immediately at the current best available
price. However, the final price you get might be slightly different due to
market fluctuations.

3. At The Open (ATO):

 These are market orders placed during the pre-opening session. They are
executed at the opening price of the stock.

4. Limit Order:

 You set a specific price at which you want to buy or sell a stock. For example,
if you want to buy shares of ABC at no more than ₹100, the order will only
execute if the stock price is ₹100 or lower.

5. Discretionary Order:

 You allow your broker to decide the best price for buying or selling the stock,
trusting them to get you a reasonable deal.

D) Quantity & Price Freezes:

1. Quantity Freeze:

 If you place an order for more than 10% of a company’s total available shares,
the system freezes the order to avoid sudden market impact.

2. Price Freeze:

 For stocks with no set price limits (like those in the derivatives market), the
exchange has a safeguard: if the price is set more than 20% above or below
the stock's base price for the day, the order is automatically frozen. This
prevents trades at unrealistic prices.

These conditions help you control your trades based on timing, quantity, and
pricing, ensuring you get the best deal while managing risks.

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9. MECHANICS OF INVESTING.

When it comes to investing in the stock market, there are a few different strategies
investors can use. These include buying long, selling short, and margin trading.
Let’s break these down in simple terms:

1. Long Purchase (Going Long)

 Description: Going long means buying a stock (or another financial asset)
with the expectation that its price will increase. If the price goes up, you can
sell it at a higher price, making a profit.
 How It Works:

For example, let’s say you buy 100 shares of XYZ company at Rs. 20 each.
This means your total investment is Rs. 2,000.

After a year, the stock price goes up to Rs. 40 per share.

If you sell all your shares at this new price, you get Rs. 4,000.

Your profit would be: Rs. 4,000 (sale proceeds) - Rs. 2,000 (purchase cost) =
Rs. 2,000 profit.

 Investor Profile: Investors who "go long" are usually optimistic (bullish)
about the market and believe prices will rise.

2. Short Selling (Going Short)

 Description: Short selling is the opposite of going long. It involves selling

shares that you do not currently own, with the hope of buying them back later
at a lower price. The goal is to profit from a decline in the stock's price.
 How It Works:

Suppose you "short" 100 shares of XYZ stock at Rs. 40 each, earning Rs.
4,000 in the process.

Later that day, the stock price drops to Rs. 35 per share.

You buy back those 100 shares for Rs. 3,500.

Your profit would be: Rs. 4,000 (initial sale proceeds) - Rs. 3,500 (buyback
cost) = Rs. 500 profit.

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 Investor Profile: Investors who short sell are usually pessimistic (bearish) and
believe prices will drop.
 Risks: Short selling is riskier than going long because if the stock price rises
instead of falling, you could face unlimited losses.

3. Margin Trading

 Description: Margin trading allows you to buy stocks by borrowing money

from your broker. This means you can purchase more shares than you could
with just your own money, potentially increasing your profits.
 How It Works:

For example, you want to buy 2,000 shares of Company A at Rs. 300 each,
which would normally require Rs. 6,00,000.

Instead, you buy a futures contract for these shares, where you only need to
pay a margin (a small percentage, like 15% of the total amount). So, you only
need Rs. 90,000 instead of the full Rs. 6,00,000.

The broker lends you the rest, and you can leverage this to amplify your gains
if the stock price increases.

 Key Points:

1. Margin trading is available only for specific high-quality stocks (like Group 1
securities) and those that are eligible for derivatives trading.
2. Brokers who offer margin trading must meet certain criteria (like a net worth
of at least Rs. 3 crore) and have agreements with their clients.
3. Brokers can use their funds or borrow from banks, but they cannot use money
from unregulated sources.

 Advantages:

1. Higher Profit Potential: If the stock price rises, you make a larger profit than
you would with only your own money.

 Risks:

1. Higher Losses: If the stock price falls, you could lose more than your initial
investment because you still need to pay back the borrowed money, plus any
interest.
2. Margin Calls: If the value of your investment drops below a certain level,
your broker may require you to add more money to your account (a "margin
call") to cover potential losses.
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 Summary: Margin trading is like investing on steroids—it can significantly

boost your gains, but it can also double your losses. It’s a high-risk, high-
reward strategy suitable for experienced investors.
 These strategies give investors different ways to profit based on their
predictions of market movements, but each comes with its own risks and
rewards.

10.BASIC OBJECTIVES AND FUNCTIONS OF:

SEBI

The Securities and Exchange Board of India (SEBI) is the main regulator for
the securities market in India.

History of SEBI

 Establishment: SEBI was set up by the Government of India in 1988 and was
given full legal powers in 1992 when the SEBI Act was passed.
 Previous Regulator: Before SEBI, the Controller of Capital Issues (under
the Capital Issues (Control) Act of 1947) managed the securities market.
 Headquarters and Offices: The main office is in Mumbai at the Bandra-
Kurla Complex. Regional offices are located in Delhi, Kolkata, Chennai, and
Ahmedabad. SEBI also has local offices in cities like Jaipur, Bangalore, and
plans to expand further.

Structure of SEBI

 SEBI is a Board set up by the Central Government as per Section 3 of the

SEBI Act.
 Members of SEBI:

1. Chairman (appointed by the Central Government)

2. Two members from the Finance Ministry
3. One member from the Reserve Bank of India (RBI)
4. Five other members, with at least three being full-time members, appointed
by the Central Government.

Objectives of SEBI

SEBI was established with four main objectives:

1. Protect Investors: Ensure the safety of investments by guiding and educating

investors.

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2. Prevent Fraud: Stop unfair practices in the securities market to protect

investors.
3. Develop Market Code of Conduct: Establish rules for financial
intermediaries like brokers and underwriters.
4. Ensure Orderly Market: Promote smooth functioning of the stock market.

Functions of SEBI

SEBI's functions are divided into three categories: Protective, Developmental,

and Regulatory.

1. Protective Functions

These are aimed at safeguarding investors:

 Preventing Price Manipulation: SEBI monitors the market to stop artificial

inflation or deflation of stock prices (known as price rigging).
 Prohibiting Insider Trading: It prevents company insiders (like directors)
from using confidential information for personal gain.
o For example, if a company insider knows about an upcoming bonus
share issue and buys shares beforehand, SEBI will take action against
such insider trading.
 Preventing Fraud: Companies are not allowed to make misleading
statements that could trick investors into buying or selling securities.
 Investor Education: SEBI educates investors to help them make informed
decisions.
 Fair Practices: SEBI ensures companies follow fair practices, like protecting
the interests of debenture holders and stopping unfair share allotments.

2. Developmental Functions

These focus on promoting growth in the securities market:

 Training Financial Intermediaries: SEBI helps train brokers and other

market participants.
 Encouraging Digital Trading: SEBI allows internet trading through
registered brokers.
 Flexible Rules: For instance, underwriting (guaranteeing the sale of new
shares) is now optional to reduce costs.
 Research and Development: Conducts research to improve the market.
 Self-Regulation: Encourages self-regulation among financial organizations.

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3. Regulatory Functions

These are meant to enforce laws and guidelines in the stock market:

 Regulating Intermediaries: SEBI sets rules for brokers, merchant bankers,

underwriters, and other market players.
 Registration of Market Participants: Ensures all market players like
stockbrokers, mutual funds, and credit rating agencies are registered and
follow the rules.
 Regulating Company Takeovers: Monitors and controls company mergers
and takeovers to protect investor interests.
 Audits and Inquiries: SEBI conducts inspections and audits of stock
exchanges to ensure transparency.
 Fee Collection: SEBI collects fees for its services as per the law.

Summary

SEBI plays a critical role in making the Indian stock market safer, fairer, and
more efficient. It protects investors, promotes growth, and ensures all market
participants follow the rules.

NSE

The National Stock Exchange (NSE) is one of India's leading stock exchanges,
designed to modernize and improve the efficiency of the country's financial
markets. Here's a simplified breakdown of its background, objectives, features,
and functions.

Background of NSE

 Origin: The idea for a national stock exchange was proposed in June 1991 by
a high-powered committee led by M.J. Pherwani, the former Chairman of UTI
(Unit Trust of India).
 Need for NSE: The committee identified several issues with the traditional
stock markets in India, such as:

1. Inefficient and outdated trading systems: These systems lacked

transparency, affecting investor confidence.
2. Old settlement processes: They were slow, causing delays and reducing
liquidity.
3. Lack of cohesion: Different stock exchanges had varied legal structures,
trading rules, and settlement procedures, leading to inconsistencies.

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4. No proper debt market: The existing exchanges were unable to develop a

strong market for debt securities.

 Launch: To overcome these challenges, NSE was established in November

1992 with an equity capital of Rs. 25 crores. It was promoted by major
financial institutions like IDBI, ICICI, LIC, GIC, SBI, and its subsidiaries.

Objectives of NSE

The NSE was set up with the following goals:

1. Nationwide Trading Facility: To provide a platform for trading equities, debt

instruments, and hybrid securities across the country.
2. Equal Access for Investors: Ensure that investors from any part of India can
access the market on equal terms.
3. Fair, Efficient, and Transparent Trading: Promote a trading environment
that is transparent and fair for all participants.
4. Faster Settlement Cycles: Reduce the time taken to settle trades, improving
market efficiency.
5. Meet Global Standards: Align the Indian securities market with international
standards.

Key Features of NSE

 Fully Automated Trading System: NSE uses a fully electronic, screen-based

trading system, allowing investors to trade in real time from over 400 cities
across India.
 No Physical Trading Floor: Unlike traditional stock exchanges, there is no
physical trading floor. All trading happens electronically.
 Three Market Segments:

1. Capital Market (for stocks and equity)

2. Wholesale Debt Market
3. Derivatives Market

 Advanced Communication Technology:

NSE is connected via 3,000 computer terminals using satellite dishes

(VSATs), enabling traders to access the central system located in Mumbai
from their own offices.

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 Order-Driven System:

Trades are matched automatically to secure the best available price. The identity
of traders is kept confidential, which means large orders can be placed without
affecting market sentiment.

Trade confirmation is instantly provided to traders with details like price,

quantity, and other relevant information.

Functions of NSE

1. Nationwide Trading Platform: Provides a trading facility for debt, equity,

and other securities, making it accessible to investors all over India.
2. Equal Participation: Acts as a communication network that gives all
investors equal access to the trading system.
3. Global Standards Compliance: Ensures that the Indian financial market
meets international norms.
4. Faster Settlements: Enables quick trade settlements, often using electronic
book-entry systems.
5. Transparency: Makes price information and trading details widely available,
allowing investors to trade from any location with equal access to market data.

Impact of NSE

1. Electronic Trading: NSE was the first exchange in India to introduce

electronic trading, which improved market transparency and efficiency.
2. Creation of NSDL: NSE played a key role in setting up the National
Securities Depository Limited (NSDL), which allowed investors to hold and
trade securities in electronic form, making investing safer and simpler.
3. Cost and Efficiency: Before NSE, trading a stock listed on a different
exchange was a cumbersome process involving multiple brokers, leading to
high costs and delays. NSE eliminated this by allowing direct access to a
unified market for all investors.

Conclusion

The NSE transformed the Indian stock market by introducing advanced

technology, improving transparency, and ensuring equal access for all investors.
It has set a benchmark for financial markets in India, aligning them with global
standards.

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BSE

The Bombay Stock Exchange (BSE) is the oldest stock exchange in Asia,
established way back in 1875. It is a major player in India's financial markets and
offers a platform for trading in various securities like stocks, debt instruments,
and derivatives.

Background of BSE

 Established in 1875 as "The Native Share & Stock Brokers' Association".

 Managed by a Governing Body: It consists of 19 directors, including one
executive director, a representative from the RBI, nine brokers elected by
members, and five public representatives.
 Membership: It has over 700 members, mostly individuals, but also includes
corporate members now.

Objectives of BSE

1. Efficient and Transparent Trading: Provide a clear and efficient platform

for trading in equities, debt instruments, derivatives, and mutual funds.
2. Support SMEs: Offer a trading platform specifically for small and medium
enterprises.
3. Maintain Market Integrity: Ensure active trading and safeguard market trust
through an electronic exchange system.
4. Comprehensive Services: Offer additional services like risk management,
clearing, settlement, market data, and educational resources.
5. International Standards: Aim to meet global market standards.

Key Features of BSE

 Huge Number of Listed Companies: Over 5000 companies are listed,

making it the world's largest exchange in terms of the number of listed
companies.
 Trading Hours: Trading on BSE’s BOLT System happens from Monday to
Friday, between 9:15 AM to 3:30 PM.
 Market Capitalization: As of December 2017, the market value of all listed
companies on BSE was over Rs 150 lakh crore.

BSE Market Segments

1. Equity Segment:

Has nearly 5000 listed companies.

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Companies are divided into three groups:

 Group A: Large companies with high liquidity and consistent performance.

 Group B1: Companies with sound financials and moderate liquidity.
 Group B2: Smaller companies with less trading activity and weaker financial
conditions.

2. Debt Segment:

Deals with debt securities, divided into:

 F Segment: Corporate debt securities.

 G Segment: Government securities like treasury bills and PSU bonds.

3. Derivative Segment:

 For trading in derivative products like index futures, currency futures, and
interest rate futures, as approved by SEBI.

Modern Activities of BSE

1. Project Advisory Services: Help companies with project planning, including

preparing project reports and raising funds.
2. Mergers and Acquisitions: Assist businesses in planning and executing
mergers or acquisitions.
3. Capital Restructuring: Guide companies in reorganizing their capital
structure for better financial health.
4. Debenture Trustees: Act as trustees for debenture-holders to protect their
interests.
5. Management Consulting: Recommend changes in management structure to
improve performance.
6. Joint Ventures: Help set up joint ventures by finding suitable partners and
preparing agreements.
7. Rehabilitation of Sick Companies: Assist in restructuring financially
struggling companies.
8. Risk Management: Help businesses hedge against risks like currency
fluctuations, interest rates, and economic or political changes using swaps and
derivatives.

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Functions of BSE

1. Price Determination:

BSE helps in setting the prices of listed securities based on demand and
supply, which investors can track through the SENSEX index.

2. Economic Contribution:

By offering a trading platform, BSE facilitates continuous investment and

disinvestment, aiding in capital formation and economic growth.

3. Liquidity Provision:

BSE ensures that investors can easily buy or sell securities, providing high
liquidity and making it easy to convert investments into cash when needed.

4. Transactional Safety:

BSE ensures all listed companies meet regulatory standards set by SEBI,
ensuring the safety of investors' transactions.

Conclusion

The Bombay Stock Exchange (BSE) has been a cornerstone of India's financial
markets for over a century, offering a safe, efficient, and transparent platform for
trading. It plays a crucial role in the growth of the Indian economy by facilitating
easy access to capital for businesses and providing a secure environment for
investors.

NSDL

A Depository is an institution that keeps securities (like stocks, bonds, etc.) in

electronic form and helps with their transfer between investors. In India, the
depository system started in 1996 under the Depositories Act. Before this,
securities were held in paper form, which led to many issues like delayed transfers
and bad deliveries.

What is a Depository?

 A depository is like a digital locker for securities. It holds these securities in

an electronic format (called "dematerialized form") on behalf of investors,
making trading faster and more efficient.

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 Investors can access and manage their securities through a Demat Account
(similar to a bank account, but for stocks).
 Depository Participants (DPs) act as agents of the depository and interact
with investors.

NSDL: India's First Depository

 NSDL (National Securities Depository Limited) was established in 1996

and is the largest depository in India.
 Before NSDL, securities were traded in physical form, which caused problems
like lost certificates and delays in transfers.
 NSDL made trading more efficient by introducing electronic securities and a
paperless trading system.

Functions of NSDL

1. Dematerialization:

Investors can convert paper certificates (physical securities) into electronic

form through NSDL, which is stored in their Demat Accounts.

2. Transfer of Benefits:

NSDL helps transfer corporate benefits like dividends or bonus shares to

investors.

3. Mortgage for Loans:

Investors can use their securities as collateral to get loans. NSDL keeps the
pledged securities in a mortgage account.

4. Settlement of Securities:

After buying or selling securities, the ownership transfer happens smoothly

and quickly, with the help of NSDL and the stock exchange’s clearing system.

Benefits of NSDL

1. Elimination of Bad Deliveries:

 In the paper-based system, buyers faced risks like receiving faulty or fake
securities. With NSDL, securities are held electronically, eliminating such
risks.

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2. Security and Safety:

 Physical securities could get lost, stolen, or damaged. In the depository

system, these issues don’t arise since everything is stored digitally.

3. No Stamp Duty:

 Unlike physical securities, there's no stamp duty on transferring securities in

the demat system. This makes transactions cheaper.

4. Instant Transfer of Ownership:

 Once securities are transferred to an investor’s account, they become the legal
owner immediately, with no need for additional paperwork or registration.

5. Faster Settlements:

 With NSDL, the settlement cycle is faster (T+2), meaning trades are settled
within two business days instead of taking longer.

6. Faster Corporate Benefits:

 Non-cash benefits like rights issues or bonus shares are directly credited to
the investor’s account without delay.

7. Lower Brokerage Fees:

 Brokers offer lower fees for trading in dematerialized securities because it

reduces their paperwork and operational costs.

8. Less Paperwork:

 Online trading reduces the need for physical paperwork, saving time and
resources. Everything is managed digitally.

9. Portfolio Monitoring:

 Investors get regular updates on their holdings and transactions, helping them
keep track of their investments easily.

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10.Easier Changes:

 If an investor changes their address, they only need to inform their Depository
Participant (DP), and the change will be automatically updated in all records.

11.Simplified Transmission:

 When an investor passes away, transferring securities to heirs is much simpler

in the demat system compared to the traditional paper-based system.

Conclusion

NSDL has revolutionized the securities market in India by making trading more
efficient, safe, and cost-effective. By converting securities into electronic form,
it has eliminated many risks associated with physical certificates and simplified
the entire process of trading and investing.

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UNIT: 3: SECURITY ANALYSIS (20%)

1. WHAT IS SECURITY ANALYSIS?

Security Analysis is the process of evaluating and assessing the value and risk
associated with a security (such as a stock, bond, or derivative) to make informed
investment decisions. It involves studying various factors, such as financial
performance, market conditions, industry trends, and the overall economy, to
predict the future performance of a security and determine its investment
potential.

Meaning and Definition of Security Analysis:

Security analysis helps investors determine whether a particular security is a good

investment. It aims to assess whether a security is overvalued, undervalued, or
fairly valued based on its expected future returns and risks.

Book Definition of Security Analysis:

According to Benjamin Graham (widely regarded as the father of value

investing) and David Dodd in their book "Security Analysis" (1934):

"Security analysis is the process of evaluating a security to determine its

intrinsic value by reviewing all relevant factors, including both quantitative
data (financial statements, earnings reports, etc.) and qualitative aspects
(management quality, market conditions, etc.). The goal is to identify
securities that are undervalued or overvalued relative to their intrinsic
value."

2. METHODS OF SECURITY ANALYSIS.

Security analysis involves various techniques to assess the value of a security and
predict its future performance. The primary methods are:

1. Fundamental Analysis
2. Technical Analysis
3. Quantitative Analysis
4. Sentiment Analysis

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1. Fundamental Analysis

Fundamental analysis evaluates the financial health, business model, and growth
prospects of a company to determine its intrinsic value. This method uses
financial statements, economic indicators, and industry analysis to predict future
performance.

Key Steps:

 Financial Statements: Review balance sheets, profit & loss, and cash flow
statements. Key ratios include P/E, P/B, ROE, and Debt-to-Equity.
 Economic & Industry: Analyze macroeconomic factors (GDP, inflation) and
sector-specific conditions.
 Management: Assess corporate governance and leadership.
 Valuation Models: Use DCF, DDM, and other models to estimate intrinsic
value.

Tools:

 NSE India, BSE India, Morningstar India, and Money control.

2. Technical Analysis

Technical analysis focuses on price movements and trading volumes. It uses

historical data to identify patterns and trends, forecasting future stock price
movements.

Key Steps:

 Charting: Create and interpret stock charts (candlestick, line, bar).

 Indicators: Use RSI, Bollinger Bands, MACD, and moving averages.
 Support/Resistance Levels: Identify price levels where stocks tend to
reverse.
 Volume: Analyze trading volumes to confirm trends.

Tools:

 TradingView, MetaTrader, and ChartNexus.

3. Quantitative Analysis

Quantitative analysis applies mathematical models and statistical methods to

evaluate financial data, focusing on numerical analysis.

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Key Techniques:

 Financial Ratios: Analyze EPS, P/E, and ROA to assess stock performance.
 Regression Analysis: Use statistical models to predict stock prices.
 Algorithmic Trading: Use computer algorithms for trade execution.

Tools:

 Bloomberg, Reuters, SAS.

4. Sentiment Analysis

Sentiment analysis gauges market participant sentiment by analyzing social

media, news outlets, and investor sentiment reports.

Key Techniques:

 Social Media Monitoring: Track discussions on platforms like Twitter and

Reddit.
 News Sentiment: Analyze news articles and press releases.
 Investor Sentiment Indices: Use Nifty 50, BSE Sensex, and India VIX.

Tools:

 Social Mention, Google Trends, and Reuters Market Data.

Conclusion

In the Indian stock market, investors can use fundamental analysis to evaluate
stocks based on financial data, technical analysis to predict price trends,
quantitative analysis for mathematical models, and sentiment analysis to
understand market emotions. These methods allow investors to make informed
decisions and mitigate risks in the market.

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3. BASIC THEORY OF TECHNICAL ANALYSIS (RSI, MACD).

RSI [RELATIVE STRENGTH INDEX]

The Relative Strength Index (RSI) is a popular technical indicator used to

measure the strength and speed of price movements in a stock or other financial
asset. It helps traders and investors determine whether a security is overbought
(too expensive) or oversold (too cheap), which can signal potential buy or sell
opportunities.

What is RSI?

RSI is a momentum oscillator that moves between 0 and 100. It is used to assess
whether a stock is overbought or oversold based on its recent price performance.
The formula for calculating RSI is:

100
𝑅𝑆𝐼 = 100 −
1 + 𝑅𝑆
Where RS (Relative Strength) is the average of the "up closes" (average gains)
divided by the average of the "down closes" (average losses) over a given period,
typically 14 days.

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How RSI Works

 Overbought and Oversold Conditions:

Overbought: When the RSI is above 70, it indicates that the stock may be
overbought, meaning its price has increased too quickly and might be due for a
correction or pullback.

Oversold: When the RSI is below 30, it suggests that the stock is oversold,
meaning it may have fallen too much, and could be due for a price rebound or
recovery.

 Neutral Zone: An RSI reading between 30 and 70 is considered neutral. It

suggests that the stock is neither overbought nor oversold and is in a stable
trend.

How to Use RSI in Trading?

1. Overbought and Oversold Signals:

 Buy Signal: If the RSI drops below 30 (indicating oversold conditions) and
then rises above 30, it might suggest a good entry point for a buy trade, as the
stock could be poised for a rebound.
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 Sell Signal: If the RSI rises above 70 (indicating overbought conditions) and
then falls below 70, it may indicate that the stock could be headed for a
downturn, suggesting a good time to sell or take profits.

2. Divergence:

 Bullish Divergence: If the price of the stock makes a new low, but the RSI
forms a higher low, this can be a bullish sign, suggesting that the downward
momentum is weakening, and a price reversal may occur.
 Bearish Divergence: If the price of the stock makes a new high, but the RSI
forms a lower high, it could be a bearish signal, indicating that the upward
momentum is losing strength and a price reversal to the downside could
follow.

3. Trend Reversal:

 A cross above the 30 level can be seen as a potential buy signal, while a cross
below the 70 level can signal a potential sell or short trade.

RSI in Practice

 Setting the Period: The standard RSI period is 14 days, but traders can adjust
this based on their trading style. Shorter periods (e.g., 7 days) will make the
RSI more sensitive, while longer periods (e.g., 21 days) will make it less
sensitive.
 Complementary Tools: RSI is often used alongside other indicators like
moving averages, MACD (Moving Average Convergence Divergence), or
trendlines to improve its effectiveness and avoid false signals.

Why RSI is Important

 Easy to Understand: RSI is simple to calculate and interpret, making it

accessible for both novice and experienced traders.
 Versatile: RSI works across different time frames (e.g., daily, weekly,
monthly), making it suitable for both short-term and long-term traders.
 Momentum Indicator: It helps traders gauge the strength of a trend and
whether the current price movements are sustainable.

Limitations of RSI

While RSI is a useful tool, it’s not foolproof. The main limitation is that
overbought or oversold conditions can persist for a long time, especially in

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strong trends. Therefore, traders should use RSI in combination with other
technical tools or market analysis to confirm signals and avoid false alarms.

In Summary

RSI is a crucial tool in technical analysis that helps investors and traders identify
potential buying and selling opportunities based on overbought or oversold
conditions. By tracking the momentum of price changes, RSI provides insights
into whether a stock is due for a reversal. However, like any technical indicator,
it works best when combined with other analysis methods to confirm trends and
signals.

MACD [MOVING AVERAGE CONVERGENCE DIVERGENCE]

Moving Average Convergence Divergence (MACD) is a versatile and widely

used technical analysis tool that helps traders and investors identify trends,
measure momentum, and spot potential buy and sell signals. It is based on the
relationship between two moving averages of a security’s price.

What is MACD?

The MACD is a momentum oscillator that consists of two moving averages (the
MACD line and the Signal line), and a histogram that shows the difference
between these two lines. The MACD is designed to reveal changes in the strength,
direction, momentum, and duration of a trend.

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The Components of MACD

1. MACD Line: This is the difference between two exponential moving

averages (EMAs) of the price:

 Fast EMA (Short-term EMA): Typically, this is the 12-period EMA.

 Slow EMA (Long-term EMA): Typically, this is the 26-period EMA.

The MACD line is calculated as:

𝑴𝑨𝑪𝑫 𝑳𝒊𝒏𝒆 = 𝟏𝟐 − 𝒑𝒆𝒓𝒊𝒐𝒅 𝑬𝑴𝑨 − 𝟐𝟔 − 𝒑𝒆𝒓𝒊𝒐𝒅

2. Signal Line: This is the 9-period EMA of the MACD line. The Signal line is
used to trigger buy or sell signals when the MACD line crosses over it.

𝑺𝒊𝒈𝒏𝒂𝒍 𝑳𝒊𝒏𝒆 = 𝟗 − 𝒑𝒆𝒓𝒊𝒐𝒅 𝑬𝑴𝑨 𝒐𝒇 𝑴𝑨𝑪𝑫 𝑳𝒊𝒏𝒆

3. Histogram: The histogram represents the difference between the MACD line
and the Signal line. It is plotted as bars above or below the zero line. When
the MACD line is above the Signal line, the histogram is positive (above the
zero line); when the MACD line is below the Signal line, the histogram is
negative (below the zero line).

𝑯𝒊𝒔𝒕𝒐𝒈𝒓𝒂𝒎 = 𝑴𝑨𝑪𝑫 𝑳𝒊𝒏𝒆 − 𝑺𝒊𝒈𝒏𝒂𝒍 𝑳𝒊𝒏𝒆

How to Use MACD in Trading

1. Crossovers:

 Bullish Crossover (Buy Signal): A bullish signal occurs when the MACD
line crosses above the Signal line. This suggests that the short-term
momentum is becoming stronger than the long-term momentum, signaling a
potential upward price movement.
 Bearish Crossover (Sell Signal): A bearish signal occurs when the MACD
line crosses below the Signal line. This indicates that the short-term
momentum is weakening, and a downward price movement may follow.

2. Divergence:

 Bullish Divergence: This occurs when the price of the security is making
lower lows, but the MACD is making higher lows. It suggests that the selling
momentum is weakening and a potential price reversal (upward) could occur.
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 Bearish Divergence: This happens when the price is making higher highs, but
the MACD is making lower highs. It indicates that the buying momentum is
weakening, and a price reversal (downward) may happen.

3. Zero Line Crossovers:

 When the MACD line crosses above the zero line, it suggests that the shorter-
term trend is stronger than the longer-term trend, which is a bullish sign.
 When the MACD line crosses below the zero line, it indicates that the longer-
term trend is stronger than the shorter-term trend, which is a bearish sign.

4. MACD Histogram:

 Expanding Histogram: An expanding histogram (bars getting taller)

indicates increasing momentum in the direction of the MACD line.
 Contracting Histogram: A contracting histogram (bars getting shorter)
signals a weakening of momentum and the potential for a trend reversal.

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MACD Formula Recap

 MACD Line Formula:

𝑴𝑨𝑪𝑫 𝑳𝒊𝒏𝒆 = 𝟏𝟐 − 𝒑𝒆𝒓𝒊𝒐𝒅 𝑬𝑴𝑨 − 𝟐𝟔 − 𝒑𝒆𝒓𝒊𝒐𝒅 𝑬𝑴𝑨

 Signal Line Formula:

𝑺𝒊𝒈𝒏𝒂𝒍 𝑳𝒊𝒏𝒆 = 𝟗 𝒑𝒆𝒓𝒊𝒐𝒅 𝑬𝑴𝑨 𝒐𝒇 𝑴𝑨𝑪𝑫 𝑳𝒊𝒏𝒆

 MACD Histogram Formula:

𝑯𝒊𝒔𝒕𝒐𝒈𝒓𝒂𝒎 = 𝑴𝑨𝑪𝑫 𝑳𝒊𝒏𝒆 − 𝑺𝒊𝒈𝒏𝒂𝒍 𝑳𝒊𝒏𝒆

How MACD Works in Practice

1. Identifying Trends:

 When the MACD is above the zero line, it generally suggests an uptrend, and
when it's below the zero line, it suggests a downtrend.

2. Spotting Reversals:

 By looking at MACD crossovers and divergences, traders can spot potential

trend reversals, making it a useful tool for entering or exiting trades.

3. Confirming Trend Strength:

 The MACD helps confirm the strength of a trend. A strong trend will see the
MACD line moving well above or below the zero line, with the histogram bars
becoming larger in the direction of the trend. Weak trends will have a MACD
line close to the zero line and smaller histogram bars.

Limitations of MACD

 Lagging Indicator: Since the MACD uses moving averages, it is a lagging

indicator and may not always capture the start of a trend early.
 False Signals: Like all technical indicators, the MACD can give false signals
during periods of low volatility or choppy markets. It works best when
combined with other indicators or chart patterns for confirmation.
 Overbought/Oversold Levels: MACD does not have fixed overbought or
oversold levels, so it may not be as useful in certain conditions compared to
other oscillators like RSI.

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In Summary

The MACD is a powerful tool used in technical analysis to help traders and
investors track price momentum, identify potential buy and sell signals, and spot
trend reversals. By analyzing the relationship between two moving averages,
MACD provides insights into the strength and direction of a trend, making it an
essential tool for traders looking to make informed decisions in the stock market.
However, like all technical indicators, it is most effective when used in
conjunction with other tools and methods for confirmation.

4. FUNDAMENTAL ANALYSIS (ECONOMIC, INDUSTRY AND

COMPANY).
ECONOMIC ANALYSIS

Fundamental analysis in stock market investment involves evaluating various

economic factors to assess the intrinsic value of stocks or other financial
instruments. Economic variables play a crucial role in determining the
performance of financial markets, as they directly or indirectly impact business
profitability, market sentiment, and investor behavior. In this context, several key
economic indicators are analyzed to gauge the future direction of markets and
economies. Below are some of the major economic factors that impact
fundamental analysis:

1. Growth Rates of National Income (GDP Growth)

National income or Gross Domestic Product (GDP) is the total value of goods
and services produced by a country's economy within a given period, usually a
year or a quarter. It is the most significant indicator of a country's economic
health.

 Impact on Stock Market: Higher GDP growth rates generally signal a strong
economy, with rising consumer spending, business investment, and
employment. This encourages investor confidence, leading to higher demand
for stocks and a positive impact on the stock market. On the other hand, low
or negative GDP growth can indicate a recession or economic slowdown,
which tends to depress stock prices.
 Investors’ Perspective: Investors closely monitor GDP growth rates as they
reflect the overall economic performance. A rising GDP suggests a favorable
environment for businesses, while slow or negative growth signals potential
problems like reduced demand or low profitability.

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2. Inflation

Inflation refers to the rate at which the general level of prices for goods and
services rises, leading to a decrease in the purchasing power of money. Central
banks and governments keep a close eye on inflation levels, aiming for moderate
inflation to ensure stable economic growth.

 Impact on Stock Market: Moderate inflation is typically seen as a sign of

healthy economic growth, but high inflation can erode purchasing power,
reduce consumer spending, and increase costs for businesses, potentially
hurting profitability. This can negatively impact stock prices.
 Interest Rates and Inflation: Inflation is closely tied to interest rates. Central
banks, like the Reserve Bank of India (RBI) or the Federal Reserve in the U.S.,
may raise interest rates to combat high inflation. Higher interest rates make
borrowing more expensive, reducing consumer and business spending, which
can lead to lower stock prices.
 Investors’ Perspective: Investors usually prefer low and stable inflation as it
allows businesses to plan effectively, keeps the cost of capital manageable,
and preserves the value of investments. However, high inflation can lead to
uncertainty, and inflationary pressures may reduce profit margins for
companies.

3. Interest Rates

Interest rates are the cost of borrowing money or the return on investments in
debt instruments like bonds. Central banks use interest rates as a tool to control
inflation and stabilize the economy.

 Impact on Stock Market: Higher interest rates generally make borrowing

more expensive for businesses and consumers, leading to reduced spending
and lower business profits. As a result, stock prices may fall. Conversely,
lower interest rates make borrowing cheaper, which stimulates consumer
spending and business investment, typically boosting stock prices.
 Investors’ Perspective: Lower interest rates generally make stocks more
attractive than bonds or savings accounts, as the returns on these safer
investments decrease. However, when interest rates rise, investors may shift
their money from stocks to safer assets, like bonds, which provide higher
returns.
 Central Bank Policy: Central banks’ decisions regarding interest rates
significantly impact market sentiment. Investors closely watch central bank
meetings and announcements for signals on future rate hikes or cuts.

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4. Government Revenue, Expenditure, and Deficits

A government’s revenue, expenditure, and deficit are key components of its

fiscal health. Revenue comes from taxes, duties, and other sources, while
expenditure includes government spending on infrastructure, welfare programs,
defense, and public services. A budget deficit occurs when a government’s
expenditure exceeds its revenue, requiring borrowing or external financing.

 Impact on Stock Market: A high deficit can lead to increased borrowing,

potentially causing inflationary pressures or a rise in interest rates. This can
reduce investor confidence and negatively affect the stock market. However,
if government spending is directed toward productive investments (like
infrastructure), it can stimulate growth and potentially boost stocks in the long
run.
 Investors’ Perspective: Investors look at government fiscal health to gauge
the stability of the economy. A government with manageable debt and a stable
fiscal policy tends to be seen as more stable, while countries with high deficits
and debt may face economic instability, affecting investor sentiment.

5. Exchange Rates

The exchange rate is the value of a country’s currency relative to another

currency. It affects the cost of imports and exports, influencing trade balances and
corporate earnings, particularly for multinational corporations.

 Impact on Stock Market: A strong currency can make imports cheaper and
exports more expensive, which might hurt export-oriented companies. On the
other hand, a weak currency can boost exports by making them cheaper for
foreign buyers, benefiting companies in export-driven industries.
 Investors’ Perspective: Exchange rate fluctuations can affect a company’s
profitability, particularly for those involved in international trade. Investors
keep an eye on currency movements, as these can influence earnings from
abroad, especially for companies that operate in multiple countries.

6. Infrastructure

Infrastructure refers to the physical and organizational structures needed for the
operation of a society, such as transportation systems, energy production,
telecommunications, and public services.

 Impact on Stock Market: Strong infrastructure development tends to

stimulate economic growth by improving efficiency in transportation, energy
distribution, and communications. This can benefit a wide range of industries
and lead to higher corporate profits, boosting stock prices.
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 Investors’ Perspective: Investors see infrastructure development as a sign of

long-term economic growth. Sectors like construction, real estate, and energy
are directly impacted by infrastructure spending. The government’s
investments in infrastructure, such as roads, airports, and power plants, are
often seen as positive for the economy and markets.

7. Monsoon

In countries like India, monsoon plays a vital role in determining agricultural

output. The amount of rainfall during the monsoon season impacts crop
production, which in turn affects food prices and the livelihoods of millions of
people.

 Impact on Stock Market: Good monsoon rains generally lead to higher

agricultural production, boosting rural income and consumer spending. This
can positively affect companies in sectors like agriculture, FMCG (Fast-
Moving Consumer Goods), and rural infrastructure. Conversely, a weak
monsoon can lead to crop failures, higher food prices, and inflationary
pressures, negatively affecting the stock market.
 Investors’ Perspective: Monsoon forecasts and actual rainfall data are
important for investors, especially in agricultural-based economies like India.
Poor monsoon seasons can lead to price increases and reduced corporate
earnings in agricultural and related sectors.

8. Economic and Political Stability

Economic stability refers to a situation where an economy grows steadily

without experiencing extreme fluctuations in inflation, unemployment, or
economic output. Political stability involves a stable government and consistent
policy direction, which is crucial for investor confidence.

 Impact on Stock Market: A stable economic environment provides

businesses with predictable conditions for growth, and political stability
ensures that policies are consistent and reliable. In contrast, economic
instability, such as high inflation or political turmoil, can deter investment and
lead to a decline in stock market performance.
 Investors’ Perspective: Investors prefer countries with both economic and
political stability, as it reduces the risks associated with their investments.
Countries with unstable political environments may face challenges like
sudden policy changes, nationalization of assets, or civil unrest, which can
negatively impact the stock market.

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Economic Forecasting: Understanding Future Trends

Economic forecasting involves predicting future economic conditions based on

the analysis of current and historical data. It helps businesses, investors, and
governments make informed decisions. Key economic indicators such as GDP
growth rates, inflation, interest rates, and political stability are closely monitored
to anticipate trends.

 Impact on Stock Market: Economic forecasting provides valuable insights

into the potential direction of the market. Positive forecasts, such as high GDP
growth, low inflation, and political stability, can encourage investor optimism
and drive stock prices higher. Conversely, negative forecasts may lead to
caution, reduced investment, and declining stock prices.

Conclusion

Economic factors such as national income growth, inflation, interest rates,

government fiscal policy, exchange rates, infrastructure development, monsoon
patterns, and political stability all play crucial roles in determining market
conditions and influencing stock prices. Investors need to understand and analyze
these factors to make informed investment decisions, as they can provide valuable
insights into the direction of the economy and the stock market. By closely
monitoring these economic indicators, investors can anticipate trends and align
their strategies with the broader economic landscape.

INDUSTRY ANALYSIS

Overview: When investors put their money into specific companies, those
companies belong to certain industries. The performance of these companies is
closely tied to the success or failure of the industry they are part of. Therefore,
analysts need to conduct an industry analysis to understand the factors that
influence the performance of different industries. Some industries might be
growing rapidly, while others might be stagnating or declining. Companies in a
growing industry are likely to thrive, whereas those in a declining industry may
struggle.

What is an Industry? : An industry is a group of companies producing similar

products that fulfill the needs of a common set of customers. For example, we
have industries like cement, steel, textiles, and pharmaceuticals, classified based
on their products. However, it can get complicated when companies have diverse
product lines. Despite these challenges, each country has a standard way to
classify industries for easier data collection and reporting.

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Industry Life Cycle:

Just like products have a life cycle (introduction, growth, maturity, and decline),
industries also go through similar stages:

A B C D

A: Pioneering Stage (introduction)

B: Expansion Stage (maturity)

C: Stagnation Stage (growth)

D: Decay Stage (decline)

1. Pioneering Stage:

 This is the early phase of an industry's life. Here, the technology and products
are new and not yet perfected. Demand is growing rapidly, creating significant
profit opportunities. However, the competition is fierce, and many companies
fail, leaving only a few survivors.
 Example: The leasing industry in India during the mid-1980s saw a rapid rise.
Many companies entered the market, but intense competition led to many of
them shutting down.
 Industries in this stage are known as "sunrise industries" (e.g.,
telecommunications, IT, and software).

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2. Expansion Stage:

 After surviving the pioneering phase, the industry moves to the expansion
stage. Companies here are stronger and have established markets. They
improve their products and reduce prices due to competition.
 This stage offers high returns at relatively low risk because demand often
exceeds supply. Investors find this stage attractive as companies are profitable
and may pay good dividends.

3. Stagnation Stage:

 At this point, the industry's growth slows down. It no longer grows as fast as
other industries or the overall economy. Sales may still increase but at a slower
rate. Social changes and technological advances can push an industry into
stagnation.
 Example: Black and white televisions in India during the 1980s saw a decline
due to newer color TVs.
 An industry may stay in this stage temporarily. Technological advancements
can revive it, starting a new growth cycle.

4. Decay Stage:

 This is the final phase where the industry's products are no longer in demand
due to new technologies, changing consumer habits, or better alternatives. The
industry becomes obsolete and eventually fades away.
 Investors should exit before an industry reaches this stage to avoid losses.

Importance of Industry Life Cycle for Investors

The profitability of industries varies at each stage:

Pioneering Stage: Low profitability due to high competition and uncertainty.

Expansion Stage: High profitability with increasing demand and market share.

Stagnation Stage: Medium but stable profitability.

Decay Stage: Declining profitability as demand decreases.

Understanding these stages helps investors decide when to enter or exit an

industry.

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Key Characteristics for Industry Analysis

When analyzing an industry, certain characteristics can indicate its prospects:

1. Demand-Supply Gap
 Demand for a product typically grows steadily, but production capacity can
change unpredictably based on how much companies expand their facilities.
 If there is an oversupply, prices drop, reducing profitability. If there's a
shortage, prices increase, boosting profits.
 A good industry analysis should assess this demand-supply gap to understand
short-term or medium-term prospects for profitability.

2. Competitive Conditions

The level of competition in an industry depends on certain forces, including:

 Barriers to Entry: New companies entering an industry can increase

competition. However, these new entrants might face challenges like:
a) Product Differentiation: Established companies have strong brand
loyalty, making it tough for newcomers to attract customers.
b) Cost Advantages: Existing firms may produce at a lower cost due to their
experience and scale, which new entrants can't easily match.
c) Economies of Scale: Some industries require large-scale production to be
cost-efficient. Smaller, new companies may find it difficult to compete.

An industry with high barriers to entry is often safer for investment since new
competition is limited.

 Threat of Substitutes: If an industry’s products can easily be replaced by

alternatives, it faces a weak competitive position. Industries with unique
products that are hard to replace are more promising for investment.
 Bargaining Power of Buyers: If customers have a lot of power, they can
demand better quality and lower prices, which reduces profit margins.
Conversely, if companies hold more power than buyers, the industry is likely
to be more profitable.
 Bargaining Power of Suppliers: Industries where suppliers control prices
may struggle, but if the industry has the upper hand over its suppliers, it’s in a
stronger position.
 Rivalry Among Competitors: Intense competition leads to price wars and
aggressive marketing, which can hurt profits. Industries with high competition
may be riskier to invest in.

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3. Permanence of the Industry

In a fast-changing world, industries can quickly become outdated. If an industry’s

products or technologies are likely to become obsolete soon, it’s risky to invest
in it. Stability is key for long-term investments.

4. Labour Conditions

The state of labour relations is crucial, especially in economies with powerful

unions. Frequent strikes or labor unrest can disrupt production, making the
industry less attractive for investment.

5. Government Policies

Government support or restrictions can greatly influence an industry’s success.

For instance, industries like alcohol and tobacco often face heavy regulations,
while others might receive incentives and favorable laws. Understanding
government attitudes toward an industry can help predict its future growth.

6. Supply of Raw Materials

Access to raw materials affects an industry’s profitability. Some industries have

abundant local resources, while others depend on limited suppliers or imports,
which can be risky. Industries with a steady, cost-effective raw material supply
are usually more stable.

7. Cost Structure

Industries have different cost structures:

Fixed Costs vs. Variable Costs: High fixed costs mean companies need to sell
more to break even, making them riskier. Industries with a lower proportion of
fixed costs to variable costs can break even more easily, offering a safety margin
for investors.

Conclusion

To sum up, before investing in any industry, it’s essential to evaluate these
factors. Industries that show favorable conditions in terms of competition,
stability, labor, government support, raw material supply, and cost structure are
more likely to offer good investment returns.

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COMPANY ANALYSIS

Company analysis is the final stage of fundamental analysis. It helps investors

decide which specific company to invest in after considering the economy's
growth potential and selecting a promising industry. This analysis focuses on
estimating the return and risk of individual shares, using both internal (e.g.,
annual reports, financial statements) and external (e.g., financial news,
investment services) information.
A critical part of company analysis is forecasting future earnings, as these directly
influence share prices. The financial health of a company can be evaluated using
financial statements like the balance sheet and the profit and loss account,
alongside financial ratio analysis. Here’s how to analyze a company's
performance using key financial ratios:

1. Financial Statements

Balance Sheet: Shows a company's assets and liabilities on a specific date.

Assets: Includes Fixed Assets (long-term use) and Current Assets (short-term).
Liabilities: Includes Short-term Liabilities (to be paid within a year) and Long-
term Liabilities.
Profit and Loss Account (Income Statement): Reveals revenue, costs, and
profit/loss over a financial year.
Earnings Per Share (EPS):

𝑁𝑒𝑡 𝑃𝑟𝑜𝑓𝑖𝑡 𝐴𝑣𝑎𝑖𝑙𝑎𝑏𝑙𝑒 𝑡𝑜 𝐸𝑞𝑢𝑖𝑡𝑦 𝑆ℎ𝑎𝑟𝑒ℎ𝑜𝑙𝑑𝑒𝑟𝑠

𝐸𝑃𝑆 =
𝑁𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝐸𝑞𝑢𝑖𝑡𝑦 𝑆ℎ𝑎𝑟𝑒𝑠

2. Analysis of Financial Statements

Financial ratios provide a deeper understanding of a company's strengths and

weaknesses, using both cross-sectional analysis (comparing with peers) and time-
series analysis (tracking performance over time).

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Key Financial Ratios

A) Liquidity Ratios:

These ratios measure a company’s ability to meet its short-term obligations.

Current Ratio:
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐴𝑠𝑠𝑒𝑡𝑠
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝑅𝑎𝑡𝑖𝑜 =
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠
Quick Ratio (Acid-Test Ratio):
(𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐴𝑠𝑠𝑒𝑡𝑠 − 𝐼𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 − 𝑃𝑟𝑒𝑝𝑎𝑖𝑑 𝐸𝑥𝑝𝑒𝑛𝑠𝑒𝑠)
𝑄𝑢𝑖𝑐𝑘 𝑅𝑎𝑡𝑖𝑜 =
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠

B) Leverage Ratios:

These ratios assess a company's long-term solvency and its ability to meet long-
term debt obligations.

Debt-to-Equity Ratio:
𝐿𝑜𝑛𝑔 𝑇𝑒𝑟𝑚 𝐷𝑒𝑏𝑡
𝐷𝑒𝑏𝑡 − 𝑡𝑜 − 𝐸𝑞𝑢𝑖𝑡𝑦 𝑅𝑎𝑡𝑖𝑜 =
𝑆ℎ𝑎𝑟𝑒ℎ𝑜𝑙𝑑𝑒𝑟𝑠 ′ 𝐸𝑞𝑢𝑖𝑡𝑦

Total Debt Ratio:

𝑇𝑜𝑡𝑎𝑙 𝐷𝑒𝑏𝑡
𝑇𝑜𝑡𝑎𝑙 𝐷𝑒𝑏𝑡 𝑅𝑎𝑡𝑖𝑜 =
𝑇𝑜𝑡𝑎𝑙 𝐴𝑠𝑠𝑒𝑡𝑠

Proprietary Ratio:
𝑆ℎ𝑎𝑟𝑒ℎ𝑜𝑙𝑑𝑒𝑟𝑠 ′ 𝐸𝑞𝑢𝑖𝑡𝑦
𝑃𝑟𝑜𝑝𝑟𝑖𝑒𝑡𝑎𝑟𝑦 𝑅𝑎𝑡𝑖𝑜 =
𝑇𝑜𝑡𝑎𝑙 𝐴𝑠𝑠𝑒𝑡𝑠

Interest Coverage Ratio:

𝐸𝑎𝑟𝑛𝑖𝑛𝑔𝑠 𝐵𝑒𝑓𝑜𝑟𝑒 𝐼𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝑎𝑛𝑑 𝑇𝑎𝑥𝑒𝑠(𝐸𝐵𝐼𝑇)
𝐼𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝐶𝑜𝑣𝑒𝑟𝑎𝑔𝑒 𝑅𝑎𝑡𝑖𝑜 =
𝐼𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝐸𝑥𝑝𝑒𝑛𝑠𝑒

C) Profitability Ratios:

These ratios measure how effectively a company generates profit.

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1) Related to Sales
Net Profit Margin:
𝐸𝑎𝑟𝑛𝑖𝑛𝑔𝑠 𝐴𝑓𝑡𝑒𝑟 𝑇𝑎𝑥
𝑁𝑒𝑡 𝑃𝑟𝑜𝑓𝑖𝑡 𝑀𝑎𝑟𝑔𝑖𝑛 = ( ) × 100
𝑆𝑎𝑙𝑒𝑠

Operating Ratio:
(𝐶𝑜𝑠𝑡 𝑜𝑓 𝐺𝑜𝑜𝑑𝑠 𝑆𝑜𝑙𝑑 + 𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝐸𝑥𝑝𝑒𝑛𝑠𝑒𝑠)
𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝑅𝑎𝑡𝑖𝑜 = × 100
𝑆𝑎𝑙𝑒𝑠

2) Related to Investment
Return on Assets (ROA):
𝐸𝑎𝑟𝑛𝑖𝑛𝑔𝑠 𝐴𝑓𝑡𝑒𝑟 𝑇𝑎𝑥
𝑅𝑂𝐴 = ( ) × 100
𝑇𝑜𝑡𝑎𝑙 𝐴𝑠𝑠𝑒𝑡𝑠
Return on Capital Employed (ROCE):
𝐸𝐵𝐼𝑇
𝑅𝑂𝐶𝐸 = ( ) × 100
𝑇𝑜𝑡𝑎𝑙 𝐶𝑎𝑝𝑖𝑡𝑎𝑙 𝐸𝑚𝑝𝑙𝑜𝑦𝑒𝑑
Return on Equity (ROE):
𝑁𝑒𝑡 𝑃𝑟𝑜𝑓𝑖𝑡
𝑅𝑂𝐸 = ( ) × 100
𝑆ℎ𝑎𝑟𝑒ℎ𝑜𝑙𝑑𝑒𝑟𝑠 ′ 𝐸𝑞𝑢𝑖𝑡𝑦

3) Related to Equity Shares:

Earnings Per Share (EPS):
𝑁𝑒𝑡 𝑃𝑟𝑜𝑓𝑖𝑡 𝐴𝑣𝑎𝑖𝑙𝑎𝑏𝑙𝑒 𝑡𝑜 𝐸𝑞𝑢𝑖𝑡𝑦 𝑆ℎ𝑎𝑟𝑒ℎ𝑜𝑙𝑑𝑒𝑟𝑠
𝐸𝑃𝑆 =
𝑁𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝐸𝑞𝑢𝑖𝑡𝑦 𝑆ℎ𝑎𝑟𝑒𝑠

Price-to-Earnings (P/E) Ratio:

𝑀𝑎𝑟𝑘𝑒𝑡 𝑃𝑟𝑖𝑐𝑒 𝑝𝑒𝑟 𝑆ℎ𝑎𝑟𝑒
𝑃/𝐸 𝑅𝑎𝑡𝑖𝑜 =
𝐸𝑎𝑟𝑛𝑖𝑛𝑔𝑠 𝑝𝑒𝑟 𝑆ℎ𝑎𝑟𝑒

D) Activity or Efficiency Ratios:

These measure how efficiently a company uses its assets to generate sales.
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Total Assets Turnover:

𝑆𝑎𝑙𝑒𝑠
𝑇𝑜𝑡𝑎𝑙 𝐴𝑠𝑠𝑒𝑡𝑠 𝑇𝑢𝑟𝑛𝑜𝑣𝑒𝑟 =
𝑇𝑜𝑡𝑎𝑙 𝐴𝑠𝑠𝑒𝑡𝑠
Inventory Turnover:
𝑆𝑎𝑙𝑒𝑠
𝐼𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 𝑇𝑢𝑟𝑛𝑜𝑣𝑒𝑟 =
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐼𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦
Debtors Turnover:
𝑆𝑎𝑙𝑒𝑠
𝐷𝑒𝑏𝑡𝑜𝑟𝑠 𝑇𝑢𝑟𝑛𝑜𝑣𝑒𝑟 =
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐷𝑒𝑏𝑡𝑜𝑟𝑠

3. Other Factors in Company Analysis

Beyond financial ratios, an analyst should consider:

 Market Share
 Capacity Utilization
 Expansion Plans
 Order Book Position
 Quality of Management

1. Market Share

This is about how much of the total market a company controls. Think of it like
a slice of the industry pie bigger slices mean the company is doing well compared
to others. A big market share usually means the company has strong customer
loyalty and can set better prices.

2. Capacity Utilization

This shows how much of a company’s production power is being used. If a

company is using most of its factories or equipment, it’s getting the most bang
for its buck. Higher capacity utilization means the company is efficient, making
more products without wasting resources.

3. Expansion Plans

These are the company’s strategies for growing bigger, like opening new stores,
adding new products, or entering new markets. It’s a sign the company is looking
to grow its business, which can mean more profits in the future.

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4. Order Book Position

This is like a waiting list of orders a company has to fulfill. A strong order book
means a company has lots of future sales lined up, which is a good sign for steady
revenue.

5. Quality of Management

This is all about how good the company’s leaders are at running the business.
Great management means smart decisions, strong leadership, and a focus on
growth. It’s one of the most important factors for a company’s long-term success.

Evaluating these factors, especially management quality, is crucial as they

significantly impact future growth and profitability. Investors need to combine
historical data (using the ratios above) with forecasts of future performance to
make well-informed investment decisions.
This combined approach provides a clear, memorable summary of how to analyze
a company's financial performance for potential investments.

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UNIT: 4: INTRODUCTION TO
PORTFOLIO MANAGEMENT (25%)

1. MEANING OF PORTFOLIO AND PORTFOLIO MANAGEMENT.

Meaning of Portfolio

A portfolio refers to a collection of financial assets such as stocks, bonds, mutual

funds, cash, or other investments held by an individual or organization. It
represents the variety of investments chosen to achieve financial goals, often with
a balance of risk and return.

Meaning of Portfolio Management

Portfolio management is the process of selecting, managing, and monitoring a

portfolio of investments to meet specific financial objectives. It involves deciding
where, when, and how to invest resources to maximize returns while minimizing
risks.

Definitions of Portfolio Management

1. Definition: "Portfolio management is the art and science of making decisions

about investments to achieve the best possible returns within an acceptable
level of risk."
2. Book Definition: "Portfolio management refers to the coordinated and
centralized management of a collection of investments to achieve specific
objectives while considering the risk tolerance, time horizon, and financial
goals of the investor."

Example of Portfolio Management

Imagine a young professional, Rahul, with ₹10,00,000 to invest. To diversify risk,

he creates a portfolio with:

 40% in equity mutual funds for higher returns.

 30% in fixed deposits for stability.
 20% in government bonds for low risk.
 10% in gold for inflation protection.

Rahul monitors and adjusts his portfolio regularly to ensure it aligns with his
financial goals and the market conditions.
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2. CONCEPT OF DIVERSIFICATION.

Diversification of investment is a risk management strategy where an investor

spreads their investments across various financial instruments, industries, and
asset classes. The goal is to minimize the impact of a poor-performing investment
on the overall portfolio by ensuring other investments perform better, balancing
the overall return.

Methods of Diversification in Investment

1. Asset Class Diversification

 Investing across different asset types such as stocks, bonds, real estate, and
commodities.
 Example: An investor allocates 50% in stocks, 30% in bonds, and 20% in
gold.

2. Sectoral Diversification

 Spreading investments across various industries or sectors like healthcare,

technology, and energy.
 Example: Buying shares in pharmaceutical companies, tech startups, and oil
firms.

3. Geographical Diversification

 Investing in different regions or countries to reduce the impact of localized

economic downturns.
 Example: Holding stocks from the U.S., Europe, and emerging markets like
India or Brazil.

4. Instrument Diversification

 Using a mix of investment tools like mutual funds, exchange-traded funds

(ETFs), individual stocks, and government bonds.
 Example: Combining equity mutual funds with fixed deposits and treasury
bonds.

Example of Diversified Investment Portfolio

An investor creates a portfolio as follows:

 40% in U.S. tech stocks (Apple, Microsoft)

 20% in government bonds for stability

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 INVESTMENNT AND PORTFOLIO MANAGEMENT

 20% in emerging market ETFs

 10% in real estate investment trusts (REITs)
 10% in gold for hedging against inflation

This approach balances risk and potential returns while protecting against losses
from any one investment type.

3. PORTFOLIO MANAGEMENT PROCESS.

Portfolio management is the process of managing investments like stocks, bonds,
mutual funds, and other financial instruments to achieve the best balance between
risk and return.

1. Security Analysis

This step involves studying different investment options (like stocks, bonds, and
other securities) to decide which ones are worth including in the portfolio.

 Importance: Not all securities are the same. Some offer high returns but come
with high risks, while others are safer but give lower returns.
 Measurement:
 Fundamental Analysis: Focuses on the company’s financial health (like
earnings, dividends, and debts) and external factors like the economy and
industry trends. For example, you’d ask: Is the company making good
profits? Can it repay its loans?
 Technical Analysis: Focuses on stock price patterns and trends. By
studying charts, you try to predict future prices.

This phase helps identify securities that are undervalued (good to buy) or
overvalued (best to avoid).

2. Portfolio Analysis

Once you have a list of potential investments, the next step is to figure out how
to combine them into a portfolio.

 Importance: Investing in just one security is risky. By creating a portfolio (a

mix of investments), you spread the risk. This is called diversification, or “not
putting all your eggs in one basket.”
 Measurement: You calculate the risk and return of different combinations of
securities to find a mix that balances your goals.

For example, combining stocks and bonds can reduce risk because when stock
prices fall, bond prices may remain stable or rise.

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 INVESTMENNT AND PORTFOLIO MANAGEMENT

3. Portfolio Selection

This step involves choosing the best combination of securities for the portfolio.

 Importance: The goal is to create an "efficient portfolio," which gives the

highest possible return for the level of risk you're comfortable with.
 Measurement:
 Use techniques like Modern Portfolio Theory (by Harry Markowitz) to
decide how much money to invest in each security.
 From various possible portfolios, pick the one that matches your goals,
such as high returns or low risk.

For example, if you prefer safety, your portfolio might have more bonds. If you
can handle risk, it might have more stocks.

4. Portfolio Revision

After creating the portfolio, you need to keep it updated to ensure it stays optimal.

 Importance: Markets and personal circumstances change over time. For

example:

 A stock you bought may no longer perform well.

 You may have extra money to invest or need cash for other purposes.

 Measurement:

 Regularly monitor your portfolio.

 Sell securities that no longer meet your goals and replace them with better
options.
 Adjust the proportion of your investments based on changes in risk or
market conditions.

For instance, if your portfolio has too many risky investments, you might reduce
your stock holdings and increase bonds.

5. Portfolio Evaluation

The final step is to assess how well the portfolio has performed.

 Importance: This helps you understand whether your investments are

meeting your goals and if any adjustments are needed.
 Measurement:
 Measure the returns earned by the portfolio.

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 INVESTMENNT AND PORTFOLIO MANAGEMENT

 Analyze the risks taken to achieve those returns.

 Compare performance with benchmarks like market indices or similar
portfolios.

For example, if your portfolio's return is lower than the market average, it’s a sign
that changes are needed.

Conclusion

Portfolio management is an ongoing cycle. It starts with analyzing individual

investments, moves to building a balanced portfolio, and continues with regular
monitoring, revisions, and evaluations. The goal is to ensure that your
investments align with your financial objectives while keeping risks under
control.

4. PORTFOLIO ANALYSIS AND EVALUATION: (THEORY)

MARKOWITZ MODEL.

The Markowitz Model, also known as the Modern Portfolio Theory (MPT), is
a mathematical framework for constructing an investment portfolio to achieve the
best possible balance of risk and return.

History of the Markowitz Model

 Inventor: Harry Markowitz, an American economist.

 Introduced In: His paper titled "Portfolio Selection," published in the Journal
of Finance in 1952.
 Purpose:
a. To help investors create a portfolio that maximizes returns for a given level
of risk.
b. To encourage diversification as a way to reduce risk.

Markowitz's work earned him the Nobel Prize in Economics in 1990,

highlighting its significant impact on finance.

Key Concepts

1. Risk and Return:

 Every investment has a return (gain or loss) and a risk (uncertainty of returns).
 The goal is to maximize returns while minimizing risk.

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 INVESTMENNT AND PORTFOLIO MANAGEMENT

2. Diversification:

 "Don’t put all your eggs in one basket."

 Investing in multiple securities reduces overall risk because not all assets
perform poorly simultaneously.

Markowitz Model Formula

The Markowitz Model uses mathematical formulas to calculate expected return,

portfolio variance, and covariance between securities:

1. Expected Return of Portfolio:

𝑛

𝐸(𝑅𝑝) = ∑ 𝑤𝑖 ⋅ 𝐸(𝑅𝑖)
𝑖=1

 E(Rp): Expected return of the portfolio.

 wi: Proportion of the portfolio invested in asset i.
 E(Ri): Expected return of asset i.

2. Portfolio Variance (Risk):

𝑛 𝑛

𝜎𝑝2 = ∑ ∑ 𝑤𝑖 ⋅ 𝑤𝑗 ⋅ 𝐶𝑜𝑣(𝑅𝑖, 𝑅𝑗)

𝑖=1 𝑗=1

 σp2 : Variance of portfolio returns (risk).

 Cov(Ri,Rj): Covariance between returns of asset i and j.

3. Covariance Formula:

𝐶𝑜𝑣(𝑅𝑖, 𝑅𝑗) = 𝜌𝑖𝑗 ⋅ 𝜎𝑖 ⋅ 𝜎𝑗

 ρij: Correlation between asset i and j.

 σi,σj: Standard deviations of assets i and j.

Assumptions of the Markowitz Model

1. Rational Investors: All investors aim to maximize returns while minimizing

risk.
2. Risk Measured by Variance: Risk is quantified as the variance of portfolio
returns.
3. Return Predictability: Expected returns for all assets are known.

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 INVESTMENNT AND PORTFOLIO MANAGEMENT

4. Asset Correlation: The relationship (correlation) between asset returns is

known.
5. Efficient Markets: Assets are priced correctly, reflecting all available
information.
6. Single Time Period: Investment decisions are based on one specific time
frame.

Practical Example

Imagine a portfolio with two stocks:

 Stock A: Expected return = 10%, Risk (σ) = 5%

 Stock B: Expected return = 12%, Risk (σ) = 6%
 Correlation (ρ) between A and B = 0.2

Portfolio Weights:

 50% invested in Stock A (wA=0.5)

 50% invested in Stock B (wB=0.5)

1. Expected Portfolio Return:

𝐸(𝑅𝑝) = 𝑤𝐴 ⋅ 𝐸(𝑅𝐴) + 𝑤𝐵 ⋅ 𝐸(𝑅𝐵)

𝐸(𝑅𝑝) = 0.5 ⋅ 10 + 0.5 ⋅ 12 = 11%

2. Portfolio Variance:

𝜎𝑝2 = 𝑤𝐴2 ⋅ 𝜎𝐴2 + 𝑤𝐵 2 ⋅ 𝜎𝐵 2 + 2 ⋅ 𝑤𝐴 ⋅ 𝑤𝐵 ⋅ 𝜌𝐴𝐵 ⋅ 𝜎𝐴 ⋅ 𝜎𝐵

= (0.52 ⋅ 52 ) + (0.52 ⋅ 62 ) + 2 ⋅ 0.5 ⋅ 0.5 ⋅ 0.2 ⋅ 5 ⋅ 6

= (0.52 ⋅ 52 ) + (0.52 ⋅ 62 ) + 2 ⋅ 0.5 ⋅ 0.5 ⋅ 0.2 ⋅ 5 ⋅ 6

= 6.25 + 9 + 3 = 18.25

Portfolio Risk (Standard Deviation):

𝜎𝑝 = √18.25 ≈ 4.27%

Interpretation:

 The portfolio has an expected return of 11% and a risk of 4.27%.

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Conclusion

The Markowitz Model provides a structured way to construct portfolios by

focusing on diversification to manage risk effectively. It remains a cornerstone of
modern investment strategies and has shaped the way investors think about
balancing risk and return.

SHARPE SINGLE INDEX MODEL.

The Sharpe Single Index Model is a simplified approach to portfolio

management, developed by William F. Sharpe, an economist and Nobel
laureate, in 1963. It builds on Modern Portfolio Theory (MPT) by introducing
a single factor [the market index] to explain the returns of individual securities.

This model assumes that the returns on a security are influenced by the overall
market performance and a random error term that captures other firm-specific
factors.

Purpose of the Model

The Sharpe Single Index Model simplifies the process of portfolio construction
by reducing the computational complexity of calculating the risk and return
correlations among all securities. Instead of comparing each pair of securities, it
compares them to a single market index, like the Sensex or NIFTY 50.

Key Components of the Model

1. Return of a Security (Ri): The return on a security depends on:

 Market Return (Rm): Overall market performance.

 Beta (βi): A measure of a security's sensitivity to market movements.
 Alpha (αi): The security's return independent of the market.
 Error Term (ei): Captures random factors specific to the security.

The formula is:

𝑅𝑖 = 𝛼𝑖 + 𝛽𝑖 ⋅ 𝑅𝑚 + 𝑒𝑖

Where:

 Ri: Return of security i.

 Rm: Return of the market index.
 βi : Sensitivity of Ri to Rm.
 αi: Non-market return (stock-specific).

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 INVESTMENNT AND PORTFOLIO MANAGEMENT

 ei: Random error term.

2. Expected Return: The expected return on a security is:

𝐸(𝑅𝑖) = 𝛼𝑖 + 𝛽𝑖 ⋅ 𝐸(𝑅𝑚)

3. Risk of a Security: Total risk of the security is split into:

 Systematic Risk: Caused by market movements.

 Unsystematic Risk: Due to firm-specific factors.

Formula for risk:

𝜎𝑖 2 = 𝛽𝑖 2 ⋅ 𝜎𝑚 2 + 𝜎𝑒 2

Where:

 σi2: Total variance of security i.

 βi2: Systematic risk.
 σe2: Unsystematic risk.

Assumptions of the Model

1. Market Index Represents the Economy: A single market index reflects all
macroeconomic factors.
2. Linear Relationship: The relationship between the market return and
individual security return is linear.
3. Efficient Market Hypothesis: Securities are fairly priced, and markets are
efficient.
4. Error Term Characteristics: The random error term has a mean of zero and
is uncorrelated with the market.

Steps in the Sharpe Single Index Model

1. Calculate Excess Return-to-Beta Ratio (ERi/βiER_i / \beta_iERi/βi):

Excess return is the return over the risk-free rate:

𝐸𝑅𝑖 = 𝑅𝑖 − 𝑅𝑓

The ratio helps in ranking securities:

𝐸𝑅𝑖 𝑅𝑖 − 𝑅𝑓
=
𝛽𝑖 𝛽𝑖

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Rank Securities: Rank securities based on their excess return-to-beta ratio.

2. Select Securities: Choose securities with the highest ratio until the portfolio
budget is exhausted.
3. Determine Proportions: Allocate funds to selected securities based on their
weights.
4. Construct the Portfolio: Combine securities to achieve optimal risk-return
characteristics.

Practical Example

Assume the following data:

 Security A: RA=12%, βA=1.2, Rf=5%.

 Security B: RB=10, βB=0.8, Rf=5%.

1. Calculate Excess Return-to-Beta Ratios:

𝐸𝑅𝐴
= 12 − 51.2 = 5.83
𝛽𝐴

𝐸𝑅𝐵
= 10 − 50.8 = 6.25
𝛽𝐵

Rank:

 Security B (6.25) > Security A (5.83).

2. Portfolio Construction:

Allocate more weight to Security B based on its higher ratio.

Advantages

1. Simplifies portfolio management by focusing on a single index.

2. Reduces computational complexity compared to traditional MPT.
3. Provides clear decision-making metrics for security selection.

Limitations

1. Relies heavily on the chosen market index.

2. Assumes all securities are affected by market movements in the same way.
3. Ignores multi-factor influences like sector-specific risks.

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Conclusion

The Sharpe Single Index Model provides a practical and straightforward way to
construct a portfolio while balancing risk and return. It remains a foundational
tool in portfolio management, particularly useful for investors looking to integrate
market dynamics into their investment strategy.

CAPITAL ASSETS PRICING MODEL.

The Capital Asset Pricing Model (CAPM) is a fundamental framework in

finance for determining the expected return on an investment. It was developed
independently by William F. Sharpe and John Lintner in the 1960s. CAPM
links the expected return of an asset to its systematic risk, measured by Beta
(β\betaβ), and assumes investors are compensated for taking on additional risk
compared to a risk-free asset.

Purpose of CAPM

CAPM is used to:

1. Calculate the expected return of an asset or portfolio.

2. Make investment decisions by comparing expected returns with actual returns.
3. Price risky securities and assess whether they are overvalued or undervalued.

The Formula

The CAPM equation is:

𝐸(𝑅𝑖) = 𝑅𝑓 + 𝛽𝑖 ⋅ (𝐸(𝑅𝑚) − 𝑅𝑓)

Where:

 E (Ri): Expected return of the asset.

 Rf: Risk-free rate (e.g., returns from government bonds).
 E (Rm): Expected return of the market portfolio.
 E (Rm) − Rf: Market risk premium.
 β: Beta of the asset, measuring its sensitivity to market movements.

Key Concepts in CAPM

1. Risk-Free Rate (Rf): The return from a risk-free investment, such as

government securities.
2. Market Return (E(Rm)): The return of the overall market, often represented
by an index like NIFTY 50 or S&P 500.

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 INVESTMENNT AND PORTFOLIO MANAGEMENT

3. Market Risk Premium (E(Rm)−Rf): The additional return expected from

investing in the market compared to the risk-free rate.
4. Beta (β\betaβ): A measure of a security's volatility compared to the market:

 β>1: Security is more volatile than the market.

 β<1: Security is less volatile than the market.
 β=1: Security moves in line with the market.

Assumptions of CAPM

1. Efficient Markets: All investors have access to the same information, and
securities are fairly priced.
2. Single Period Horizon: Investors evaluate portfolios over a single period.
3. Risk Aversion: Investors prefer lower risk for a given level of return.
4. Homogeneous Expectations: All investors have identical expectations of risk
and return.
5. Risk-Free Borrowing and Lending: Investors can borrow and lend unlimited
amounts at the risk-free rate.

Application Example

Data:

 Risk-free rate (Rf) = 4%

 Market return (E(Rm)) = 10%
 Beta of the stock (βi) = 1.5

Step-by-Step Calculation:

Using the formula:

𝐸(𝑅𝑖) = 𝑅𝑓 + 𝛽𝑖 ⋅ (𝐸(𝑅𝑚) − 𝑅𝑓)

𝐸(𝑅𝑖) = 4 + 1.5 ⋅ (10 − 4)
𝐸(𝑅𝑖) = 4 + 1.5 ⋅ 6 = 4 + 9 = 13%

Interpretation: The expected return for the stock is 13%. If the actual return is
less than this, the stock may be overvalued, and vice versa.

Advantages of CAPM

1. Simplicity: Provides a straightforward way to estimate expected returns.

2. Comprehensive Risk Consideration: Focuses on systematic risk (β\betaβ)
that cannot be diversified away.

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3. Practical Benchmark: Widely used for investment analysis and portfolio

evaluation.

Limitations of CAPM

1. Simplistic Assumptions: Assumes efficient markets and risk-free borrowing,

which may not reflect reality.
2. Beta Limitations: Beta only considers historical data and may not capture
future risks.
3. Single Factor Model: Relies solely on the market factor, ignoring other
factors like size or value effects.

CAPM vs. Actual Market Conditions

While CAPM is foundational in finance, real-world markets may not always align
with its assumptions. As a result, alternative models like the Arbitrage Pricing
Theory (APT) and the Fama-French Three-Factor Model have been
developed to address its limitations.

Conclusion

The Capital Asset Pricing Model remains a cornerstone of modern finance. It

provides a fundamental understanding of the relationship between risk and return,
aiding investors in making informed decisions. Despite its limitations, CAPM
continues to be a valuable tool for pricing securities and evaluating portfolios.

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MARKOWITZ MODEL
1) Expected Return of Portfolio
Security Expected Return (%) % Investment
A 10 25
B 15 25
C 20 50

Expected Return of Portfolio (Rp) = 𝑅𝑝 = (𝑤1 × 𝑟1) + (𝑤2 × 𝑟2) +

(𝑤3 × 𝑟3)

Where:

 w1=0.25, w2=0.25, w3=0.

 r1=10, r2=15, r3=20

𝑅𝑝 = (0.25 × 10) + (0.25 × 15) + (0.50 × 20)

𝑹𝒑 = 𝟏𝟔. 𝟐𝟓%

ANSWER: Rp = 16.25%

2) Expected Return of Portfolio

Security Expected Return (%) % Investment
A 15 30
B 20 25
C 25 25
D 10 20

Expected Return of Portfolio (Rp) = 𝑅𝑝 = (𝑤1 × 𝑟1) + (𝑤2 × 𝑟2) +

(𝑤3 × 𝑟3)

𝑅𝑝 = (0.30 × 15) + (0.25 × 20) + (0.25 × 25) + (0.20 × 10)

𝑅𝑝 = 17.75%

ANSWER: Rp = 17.75%
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3) Expected Return and Standard Deviation of Security

Probability (P) Return (R)
0.15 15%
0.30 7%
0.40 10%
0.15 5%

Expected Return (E(R)) = 𝐸(𝑅) = (𝑃1 × 𝑅1) + (𝑃2 × 𝑅2) + (𝑃3 ×

𝑅3) + (𝑃4 × 𝑅4)

𝐸(𝑅) = (0.15 × 15) + (0.30 × 7) + (0.40 × 10) + (0.15 × 5)

𝐸(𝑅) = 9.1%

Standard Deviation (σ) =√9.1 = 3.06%

ANSWER: Expected Return = 9.1%, Standard Deviation = 3.06%

4) Portfolio of 5 Securities - Expected Return

Security Expected Return (%) Amount Invested (Rs.)
A 14% 20,000
B 8% 10,000
C 15% 30,000
D 9% 25,000
E 12% 15,000

ANSWER: Expected Portfolio Return = 12.15%

5) Portfolio with Securities - Expected Return

Security No. of Shares Current Price Expected Price
(Old Rs.) (New Rs.)
A 100 50 65
B 150 30 40
C 75 20 25
D 100 25 32
E 125 40 47

ANSWER: Expected Return = 26.737%

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6) Portfolio with Securities - Return and S.D.

Stock Initial Expected End- Proportion (%)
Investment (Rs.) of-Period Value
(Rs.)
A 5,000 7,000 20%
B 2,500 4,000 10%
C 4,000 5,000 16%
D 10,000 12,000 40%
E 3,500 5,000 14%

ANSWER: Portfolio Expected Return = 32.004%

7) Expected Return and Standard Deviation of Portfolio

Security Expected S.D. Weight (%)
Return (%)
P 12 15 0.40
A 15 24 0.60

ANSWER: Portfolio S.D. = 12.78%

8) Portfolio Variance - Equities, Bonds, and Real Estate

Find the portfolio variance of a portfolio consisting of equities, bonds and real
estate, if the portfolio weights are 25%, 50% and 25%. The Standard
deviations are 0.1689, 0.0716 and 0.0345 respectively.

The correlations are 0,45 for equity & bonds, 0.35 for equity and real estate
& 0.20for bonds and real estate. (OCT 15- 7M)

ANSWER: variance= 0.0048724 S.D. = 0.0698

9) Expected Rate of Return and S.D. of Portfolio

Refer to above example, if the expected rate of return for equity, bonds and
real estate are 0.15, 0.10 and 0.05 respectively, what is the expected rate of
return & S.D. of a portfolio of 20% equity, 40% bonds and 40% real estate?

ANSWER: S.D. = 0.059

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10) Find the expected risk of the following portfolio:

Security Expected Return Proportion Invested (%) (x)

D.C.M 10% 20%
Escorts 15% 20%
TISCO 20% 60%
Correlation Value
r12 0.50
r13 0.10
r23 -0.30

ANSWER: Variance = 0.0892, S.D. = 0.299

11) Expected Return & Variance of Portfolio

Calculate expected return & variance of a portfolio comprising 2 securities,
assuming that the portfolio weights are 0.75 for securities 1& 0.25 for security
2. The expected Return for security 1 is 18% and its S.D. is 12%, while the
expected return and S.D. for security 2 are 22% & 20% respectively. The
correlation is 0.6.

ANSWER: 19% & Variance= 160

12) Standard Deviation of Portfolio of Two Securities

Two securities P & a with expected Returns of 15% and 24% respectively, &
S.D. f 35% & 52% respectively. Calculate the S.D. of portfolio weighted
equally between the 2 securities if their correlation is -0.9.

ANSWER: 12.78

13) Two-Security Optimal Portfolio According to Markowitz Model Find

Risk & Return
Security Return (%) S.D. (%)
A 36.2 25.2
B 31.2 21.8
C 26.9 22.3
D 20.2 39.4
E 17.5 51

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Correlation Matrix:

A B C D E
A 1.0
B 0.45 1.0
C 0.18 0.26 1.0
D 0.23 0.14 0.25 1.0
E 0.01 0.50 0.12 0.26 1.0

ANSWER: Weightage of C = 0.812, Weightage of E = 0.188, S.D. =

19.45%, Rp = 25.13%

14) Given the following information, calculate the risk and return for three
portfolios and determine which is the best:

Particulars X Y
Expected Return 11% 20%
Standard Deviation (S.D.) 9% 18%
Correlation between X & Y 0.15 0.15

Calculate the risk and return for the following scenarios:

1. (i) 50% of funds invested in X & 50% in Y

2. (ii) 75% of funds invested in X & 25% in Y
3. (iii) All funds invested in Y

Answer:

 R1 = 15.5%, R2 = 13.25%, R3 = 20%

 S.D.1 = 10.64, S.D.2 = 8.66, S.D.3 = 18

15) The equity shares of ABC and XYZ company have the following
expected return and S.D. of return over the next year:

Equity Expected Return S.D. of Return

ABC 10% 8%
XYZ 15% 12%

 Correlation coefficient between ABC & XYZ = 0.60

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Portfolio Composition:

 70% of funds invested in ABC

 Remaining 30% in XYZ

Calculate:

1. (i) Expected rate of return on the portfolio

2. (ii) Standard deviation of the portfolio

Answer:

 Expected Return (Rp) = 11.5%

 S.D. of Portfolio (SDp) = 8.28%

16) Given the following information:

Security Expected Return Standard Deviation (S.D.)

A 15% 2%
B 10% 15%

 Correlation between A & B = 0.8

Calculate:

 (i) Expected return of a portfolio with 50% of the funds invested in each
security
 (ii) Standard deviation of the portfolio

Answer:

 Expected Return (Rp) = 12.5%

 S.D. of Portfolio (SDp) = 8.32%

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17) Given the following covariance matrix for 3 securities, as well as their
expected returns and portfolio weights, calculate the portfolio's risk and
return.

Security C A B
C 425 -190 120
A -190 320 205
B 120 205 175

 Portfolio Weights for securities C, A, and B:

o Security C: 0.35
o Security A: 0.25
o Security B: 0.40
 Expected Return
o C: 15%
o A: 12%
o B: -14%

Solution Needed:

Rp=2.65, SDp=11.89

18) Given the following covariance matrix for 3 securities, their expected
returns, and the portfolio weights, calculate the portfolio's risk and
return:

Security A B C
A 325 -90 80
B -90 220 155
C 80 155 175
Additional Information:

 Portfolio Weights:
o Security A: 30%
o Security B: 35%
o Security C: 35%
 Expected Returns:
o Security A: 12%
o Security B: 14%
o Security C: -15%

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 INVESTMENT AND PORTFOLIO MANAGEMENT

Solution Needed:

 Calculate the portfolio’s expected return and risk (standard deviation).

 S.D.=16.20

19) The estimates of the standard deviations (S.D.) and correlation

coefficients for 3 stocks are as follows:

Stock Std. Deviation Correlation with Other Stocks

A B C
A 32% 1.00 -0.80 0.40
B 26% -0.80 1.00 0.65
C 18% 0.40 0.65 1.00

Portfolio Composition:

 15% of Stock A
 50% of Stock B
 35% of Stock C

Solution Needed:

 Calculate the portfolio’s standard deviation (S.D.).

Answer: Portfolio S.D. = 16.20%

20) Find portfolio variance of a portfolio consisting of equities, bonds and real
estates, if the portfolio weights are 35%, 30% and 35%. The standard
deviations are 0.0716, 0.1689 and 0.0345 respectively. The correlations are
0.25 for equity and bond, 0.40 for equity and real estate, and 0.30 for bonds
and real estate. Also, find portfolio expected return if the expected rate of
return for equity, bonds and real estate are 0.15, 0.07 and 0.09 respectively.
(APR 17-7M)

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 INVESTMENT AND PORTFOLIO MANAGEMENT

21) The estimates of the standard deviations (S.D.) and correlation

coefficients for 3 stocks are as follows:

Stock Std. Deviation Correlation with Other Stocks

A B C
A 35% 1.00, -0.60, 0.50
B 29% -0.60, 1.00, 0.75
C 15% 0.50, 0.75, 1.00

Portfolio Composition:

 25% of Stock A
 50% of Stock B
 25% of Stock C

Solution Needed:

 Calculate the portfolio’s standard deviation (S.D.).

22) Construct optimum portfolio considering equities, bonds and real estate
with standard deviations of 0.1689, 0.0716 and 0.0345 respectively. The
correlations are 0.45 for equity and bond, 0.35 for equity and real estate, and
0.20 for bonds and real estate. If the expected rate of return for equity, bonds
and real estate are 0.15, 0.10 and 0.05 respectively, calculate risk and return
of optimum portfolio constructed using Markowitz Model.(NOV 16-7M).

23) Minimum and Maximum Possible Risk and Expected Return

A portfolio consists of the following securities in equal proportion. The mean

returns and standard deviations are given below. Calculate the minimum and
maximum possible risk and expected return of the portfolio.

Security Mean Return Standard Deviation (S.D.)

A 20 25%
B 15 10%

Solution Needed:

 Calculate the minimum and maximum possible risk and expected

return for the portfolio consisting of these securities.

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 INVESTMENT AND PORTFOLIO MANAGEMENT

24) Given the following data for stocks X, Y, and Z, calculate the risk and
return of the portfolio according to the Markowitz Model.

Stock Total Investment (Rs.) S.D.(%) Return

X 10,000 20% 12%
Y 6,000 30% 15%
Z 4,000 15% 10%

Correlation Matrix:

 X & X: 1
 X & Y: 0.3 and Y & Y:1
 X & Z: 0.3 and Y & Z: 0.3 and X & Z: 1

Solution Needed:

 Calculate the risk and return of the portfolio consisting of stocks X,

Y, and Z using the Markowitz Model.

25) A portfolio consists of three securities P, Q, and R. Given the following

parameters, calculate the expected return and risk of the portfolio with
equal weights.

Security Expected Return (%) Standard Deviation (%)

P 25% 30%
Q 22% 26%
R 20% 24%

Correlation Coefficients:

 PQ: -0.5
 QR: +0.4
 PR: +0.6

Solution Needed:

 Calculate the expected return and risk of the portfolio consisting of

securities P, Q, and R if they are equally weighted.

Answer: Expected Portfolio Return = 22.33%, Portfolio Risk (S.D.) =

17.43%

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 INVESTMENT AND PORTFOLIO MANAGEMENT

CAPM [CAPITAL ASSET PRICING

MODEL]
1. Problem 1 Security J has a beta of 0.75 while Security K has a beta of
1.45. Calculate the expected return for these securities, assuming that the
risk-free rate is 5% and the expected return of the market is 14%.

Answer:
Security J: 11.75%, Security K: 18.05%

𝐸(𝑅𝑖) = 𝑅𝑓 + 𝛽 × (𝐸(𝑅𝑚) − 𝑅𝑓)

Where:

 E(Ri) : Expected return of the security

 (Rf) Risk-free rate = 5%
 E(Rm): Expected return of the market = 14%
 β: Beta of the security

For Security J:
E (RJ) = 5%+0.75 × (14%−5%)

E (RJ) = %+0.75×9%

E (RJ) = 5%+6.75% = 11.75%

For Security K:

E (RK) = 5%+1.45 × (14%−5%)

E (RK) = 5%+1.45×9%

E (RK) = 5%+13.05% = 18.05%

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 INVESTMENT AND PORTFOLIO MANAGEMENT

2. Problem 2 Calculate the return on the securities (1 to 3) and compare them

with the expected returns if Rf=9%,Rm=15%

Table:

Security Expected Return Beta

1 14 1.20
2 15 0.75
3 20 1.50

Answer:
Security 1: 16.1%

Security 2: 13.5%

Security 3: 18%

𝐸(𝑅𝑖) = 𝑅𝑓 + 𝛽 × (𝐸(𝑅𝑚) − 𝑅𝑓)

Calculation for Each Security

For Security 1:
E (R1) = 9%+1.20 × (15%−9%)

E (R1) = 9%+1.20 × 6%

E (R1) = 9%+7.2%=16.2%

Expected Return: 16.2%

For Security 2:
E (R2) = 9%+0.75 × (15%−9%)

E (R2) = 9%+0.75 × 6%

E (R2) = 9%+4.5%=13.5%

Expected Return: 13.5%

For Security 3:
E (R3) = 9%+1.50 × (15%−9%)

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 INVESTMENT AND PORTFOLIO MANAGEMENT

E (R3) = 9%+1.50 × 6%

E (R3) = 9%+9%=18%

Expected Return: 18%

Comparison with Given Expected Returns:

Security Given Expected Return CAPM Return Comparison
Security 1 14% 16.2% Undervalued
Security 2 15% 13.5% Overvalued
Security 3 20% 18% Overvalued

3. Problem 3 If Rf=5% and Market return is =14% and Beta = 1.5 for the
security:

a) Determine the expected return for the security.

b) What happens to expected return if the market return increases to 16%,

assuming other variables do not change?

c) What happens to expected return if the Beta falls to 0.75, assuming other
variables remain constant?

Answer:
a) 18.5%

b) 21.5%

c) 11.75%

𝐸(𝑅𝑖) = 𝑅𝑓 + 𝛽 × (𝐸(𝑅𝑚) − 𝑅𝑓)

(a) Expected Return with Given Values

E (Ri) = 5%+1.5 × (14%−5%)

E (Ri) = 5%+1.5 × 9%

E (Ri) = 5%+13.5% = 18.5%

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 INVESTMENT AND PORTFOLIO MANAGEMENT

Expected return: 18.5%

(b) Expected Return if Market Return Increases to 16%

If E (Rm) = 16% (new market return):

E (Ri) = 5%+1.5 × (16%−5%)

E (Ri) = 5%+1.5 × 11%

E (Ri) = 5%+16.5%=21.5%

Expected return: 21.5%

(c) Expected Return if Beta Falls to 0.75

If β=0.75\beta = 0.75β=0.75 (new beta, market return stays at 14%):

E (Ri) = 5%+0.75 × (14%−5%)

E (Ri) = 5%+0.75 × 9%

E (Ri )= 5%+6.75% = 11.75%

Expected return: 11.75%

4. Problem 4 Rf = 6%, E (Rm) = 15%, Which stock is overvalued and

which is undervalued, relative to expected return?

Table:

Stock Expected Return Beta

A 14 1.20
B 15 0.75
C 13 1.50
D 20 1.60
E 10 0.80

Answer:
A: 16.8%

B: 12.75%
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 INVESTMENT AND PORTFOLIO MANAGEMENT

C: 19.5%

D: 20.4%

E: 13.2%

5. Problem 5 What is the portfolio's expected return?

Rf=7%,Rm=14%

Table:

Stock Market Value Beta

A 1,00,000 1.10
B 25,000 1.20
C 50,000 0.75
D 1,25,000 0.60
E 1,65,000 1.30

Answer:
Portfolio Expected Return: 14.01%

6. Problem 6 Rf=6.75%,E(Rm)=12%, What should be the required rates of

return for each investment using CAPM?

Table:

Security Beta Rf Rm
A 1.20 6.75% 12%
B 0.80 6.75% 12%
C 1.50 6.75% 12%
D 0.60 6.75% 12%
E 1.25 6.75% 12%
Answer:

7. Problem 7 Riskless securities are currently offering a return of 7.25% at a

time when the expected return on all securities is 14.75%. The market
standard deviation is 2%. An investor is seeking a portfolio with a
correlation coefficient of 0.85 and a standard deviation of no more than
1.5%. What would be the required return on such a portfolio?

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 INVESTMENT AND PORTFOLIO MANAGEMENT

Answer:
Beta: 0.6375

Ri=12.0312.03

8. Problem 8 Virat owns a portfolio in which he estimates to have a standard

deviation of 3. The return on a short-term T-bill is 9%, and the expected
market return is 14%, with the market standard deviation being 2.8%.
What is the expected return on Virat's portfolio according to the CML?

Answer:
Beta: 1.32 Ri=15.6%

9. Problem 9

Compute Betas for:

(a) Security X

(b) Security Y

(c) An equally weighted portfolio of securities X & Y

Table:

Security Correlation with Market Standard Deviation of Security

X 0.5 0.25
Y 0.3 0.30

Rm=0.12, T=0.05, σ^2m=0.01

Answer:

Security X: Beta = 3.75,

Security Y: Beta = 2.25 ,

Portfolio Beta: 3

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 INVESTMENT AND PORTFOLIO MANAGEMENT

10.Problem 10 Table:

Security Estimated Return Beta Standard Deviation (%)

A 30 2 50
B 25 1.5 40
C 20 1.0 30
D 11.5 0.8 25
E 10 0.5 20
Market Index 15 1 18
Government Stock 7 - -

a) In terms of the Security Market Line, which of the securities listed above
are underpriced?

b) Assuming that a portfolio is constructed using equal proportions of the 5

securities listed above, calculate the expected return and risk of such a
portfolio.

Answer:
a) Underpriced securities: 23, 19, 15, 13.4, 11

b) Expected Return: 16.28%

11. Problem 11 An investor is seeking an efficient portfolio with a correlation

of 0.7 between the portfolio & the market and a S.D. of 2.5%. The market rate
of return is 16%, a rate that is double the return on risk free securities. What
is the required rate of return?

Answer: 18%, beta=1.25

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SHARPE MODEL
1. Rank the following securities according to the Sharpe model. Also, write
the formula for determining the cut-off rate in the Sharpe model,
explaining all the terms involved. The risk-free return is 5%.

Security Return Beta (B)

1 15 1
2 12 1
3 11 1
4 5.6 0.6
5 17 0.5
6 17 2.0
7 7 0.8

ANSWER: RANK= 2,3,4,7,1,4,6

2. What is the expected return on this portfolio? What is the beta of this
portfolio? Does the portfolio have more or less systematic risk than an
average asset?

Security Amount Invested Expected Return (%) Beta (B)

A 1,000 8 0.8
B 2,000 12 0.95
C 3,000 15 1.1
D 4,000 18 1.4

ANSWER: RETURN=14.9%, PORTFOLIO BETA=1.16

3. Rani owns a portfolio containing 4 stocks. Compute the portfolio beta.

Stock Beta (β) Amount Invested

A 0.73 20,000
B 1.86 40,000
C 1.45 10,000
D 1.15 30,000

ANSWER: 1.38

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4. What is the optimum portfolio in choosing among the following securities,

assuming the risk-free return Rf=5% and the variance of the market index
σ^2m=10%, as per the Sharpe model?

Security Table
Security Mean Return (Ri) Beta (βim) Unsystematic Risk
1 15 1.0 50
2 17 1.5 40
3 12 1.0 20
4 17 2.0 20
5 10 1.0 40
6 7 0.8 16
7 5.6 0.6 6

ANSWER: RANK: 1, 2, 3, 4, 5, 6, 7

Calculations:

 C1=1.67, C2=3.69, C3=4.42, C4=5.43, C5=5.45 ,C6=5.28, C7=4.94

 Z1=23.46%, Z2=24.65%, Z3=19.98%, Z4=28.36%, Z5=3.55%

5. Prepare the optimum portfolio by choosing from the following securities

and determining their proportions. Assume the risk-free return is 8% and
variance in the market index is 20%.

Security Mean Return (Ri) Beta (β) Unsystematic Risk (𝝈𝟐 ei)
A 18 1.2 10
B 16 1.0 5
C 14 1.8 35
D 22 2.1 40
E 16 1.1 20
F 17 0.8 45
G 15 1.0 25
H 12 1.5 30
I 10 1.4 10

ANSWER: RANK: 4, 5, 8, 1, 6, 2, 3, 7, 10, 9

 CD=6.22,CF=6.786,CG=7.222,CA=7.59,CB=7.66,CE=7.58,CH=6.91
,CI=4.83 = 6.91, Cc=6.2, Cj=5.22, Cl=4.83

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 INVESTMENT AND PORTFOLIO MANAGEMENT

 ZD=66.97%,ZF=7.87%,ZG=11.51%,ZA=10.67%,ZB=2.98%

6. Given Returns on IBM & BSE Sensex (5-Year Period)

Year Return on Sensex (X) Return on IBM (Y)
1 0.1 0.2
2 0.2 0.3
3 0.3 0.5
4 0.4 0.4
5 0.5 0.6

ANSWER:

 BETA = 0.9
 ALPHA = 0.13
 RESIDUAL VARIANCE = 0.0038
 CORRELATION = 0.9

7. Historical Rates of Return for Two Securities (10-Year Data)

Year Security X Security Y
1 12 20
2 8 22
3 7 24
4 14 18
5 16 15
6 15 20
7 18 24
8 20 25
9 16 22
10 22 20

ANSWER:

CORRELATION = -0.06

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 INVESTMENT AND PORTFOLIO MANAGEMENT

8. Calculate Alpha and Beta

Nifty Return (X) Security Return (Y)
0.8 1
1.2 1.5
1.9 1.7
-2 -1
1.8 3
0.9 1
0.3 0.5
0.5 1
-1 -0.5
0.5 1

ANSWER:

 ALPHA = 0.49
 BETA = 0.87

9. Risk-free return = 8%, variance of market index (𝜎 2 𝑚) = 12%

Security Return (Ri) Beta (β) Unsystematic Risk (𝝈𝟐 ei)

A 20 1.0 40
B 18 2.5 35
C 12 1.5 30
D 16 1.0 35
E 14 0.8 25
F 10 1.2 15
G 17 1.6 30
H 15 2.0 35

ANSWER:
RANK: 1, 5, 7, 2, 3, 8, 4, 6

 CA=2.769,CD=3.860,CE=4.433,CG=4.844,CB=4.4905,CH=4.2810,

CC=4.0844,CF=3.7563

 PORTFOLIO WEIGHTS:
ZA=45.21,ZD=22.79%,ZE=21.48%,ZG=10.52%

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 INVESTMENT AND PORTFOLIO MANAGEMENT

10.With the use of Sharpe’s Model, calculate the weights of the following
securities for the optimum portfolio, assuming the risk-free return is 8%.

Security Expected Return Beta Unsystematic Risk Ci

(Ri) (β) (𝝈𝟐 ei)
A 20 1 40 2.769
B 16 1 35 3.852
C 14 0.8 25 4.414
D 17 1.6 30 4.836
E 18 2.5 35 4.841
F 15 2 15 4.276
G 12 1.5 30 4.155
H 10 1.2 15 3.814

ANSWER: WEIGHTS OF THE PORTFOLIO:

 A=45.13%
 B=22.78%
 C=21.48%
 D=10.60%

11.Using Sharpe Model: Ranking of Securities

 Assumptions:

Risk-free return (Rf) = 8%

2 ) = 12%
Market variance (𝜎𝑚

Security Expected Return (Ri) Beta (βi) Unsystematic Risk (𝝈𝟐 ei)
A 20 1.0 40
B 18 2.5 35
C 12 1.5 30
D 16 1.0 35
E 14 0.8 25
F 10 1.2 15
G 17 1.6 30
H 15 2.0 35

ANSWER: RANKING = 1,5,7,2,3,8,4,6

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 INVESTMENT AND PORTFOLIO MANAGEMENT

12. Sharpe Model: Weights Calculation for Optimum Portfolio

 Assumptions:

Risk-free return (Rf) = 5%

Market risk = 10%

Security Expected Return Beta Unsystematic Risk Ci

(Ri) (β) (𝝈𝟐 ei)
A 15 1.0 50 1.67
B 17 1.5 40 3.69
C 12 1.0 20 4.42
D 17 2.0 10 5.43
E 11 1.0 40 5.45
F 7 0.8 16 4.91
G 5.6 0.6 6 4.52

Answer:
Weights of the securities will depend on the calculated Ci and inclusion
criteria.

13. Ramesh's Optimum Portfolio

 Assumptions:

Market index variance = 10%

Risk-free return = 7%

Security Expected Return (Ri) Beta (β) Unsystematic Risk (𝝈𝟐 ei)
A 15 1.5 40
B 12 2.0 20
C 10 2.5 30
D 9 0.9 10
E 8 1.2 20
F 14 1.5 30

Answer:
The optimum portfolio will be calculated by ranking the securities using

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 INVESTMENT AND PORTFOLIO MANAGEMENT

Sharpe’s formula and including them until the cut-off point is reached.
Weightages will depend on the individual Ci values.

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 INVESTMENT AND PORTFOLIO MANAGEMENT

UNIT: 5: MUTUAL FUND – AN

INVESTMENT AVENUE (20%)

1. CONCEPT OF MUTUAL FUND – AN INVESTMENT AVENUE.

Mutual Fund: Meaning and Definition

A mutual fund is a professionally managed investment vehicle that pools money

from multiple investors to invest in a diversified portfolio of securities such as
stocks, bonds, money market instruments, or other assets. It provides a convenient
way for individuals to invest without requiring significant expertise or large sums
of money.

 Definition:
A mutual fund is a financial instrument that collects funds from several
investors who share a common financial goal and invests them in a diversified
portfolio of securities managed by a professional fund manager.

Key Features of a Mutual Fund:

1. Diversification: Reduces risk by investing in a variety of assets.

2. Professional Management: Managed by skilled fund managers.
3. Liquidity: Investors can redeem their investments at any time.
4. Affordability: Allows small investments through Systematic Investment
Plans (SIPs).
5. Regulated: In India, mutual funds are regulated by the Securities and
Exchange Board of India (SEBI).

Advantages of Mutual Funds:

1. Diversification: Spreads risk across various securities.

2. Affordability: Suitable for small investors.
3. Expertise: Managed by experienced professionals.
4. Flexibility: Variety of schemes to match investor needs.
5. Transparency: Regular updates on portfolio performance.

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 INVESTMENT AND PORTFOLIO MANAGEMENT

Investment Avenue: Meaning and Definition

An investment avenue refers to the various financial instruments or options

available to individuals for investing their money to achieve financial goals. Each
avenue has distinct risk-return profiles, liquidity, and time horizons.

 Definition:

Investment avenues are financial products or opportunities where individuals

and organizations allocate their surplus funds with the expectation of earning
returns.

2. TYPES AND BENEFITS OF MUTUAL FUNDS [MIMP].

Mutual funds can be classified based on various criteria, including duration, level
of activity, asset class, investment objective, and special fund structures. Below
is a detailed explanation of the different types of mutual funds.

Types of mutual funds

1.Based on 2. Based on 3. Based on 4. Based on 8. Real

duration level of commodity geograpgy 5. Funds estate
(Time activity funds 6. Based on 7. funds
(a) of funds investment Infrastructur (a) Real
period) (a) Actively (a) International (FOFs) objective e debt funds estate
(a) open- managed Agriculture equity funds (a) Equity
ended funds funds funds (IDFs) mutual
(b) Feeder funds funds
(b) close- (b) (b) Industrial funds (b) Debt (b) Real
ended funds paasively metals (c) Global funds estate
(c) Interval managed funds (c) Hybrid investm
(c) Precious funds
funds funds metals ent trust
(c) ETF's (d) Energy
products

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 INVESTMENT AND PORTFOLIO MANAGEMENT

1. Based on Duration (Time Period)

Mutual funds can be classified based on their maturity period.

 Open-Ended Funds: These funds have no fixed maturity period. Investors

can enter or exit the fund at any time, offering high liquidity. Transactions are
directly made with the fund house.
 Close-Ended Funds: These funds have a fixed maturity period, usually
ranging from 3 to 10 years. Investors can invest during the initial launch phase
(New Fund Offer) and trade the units on stock exchanges after the launch.
 Interval Funds: These funds combine features of open-ended and close-
ended funds. Investors can buy or sell units only during specified intervals,
such as quarterly or yearly.

2. Based on Level of Activity

This classification depends on how actively the fund manager is involved in

managing the investments.

 Actively Managed Funds: The fund manager actively makes decisions about
buying and selling securities to generate higher returns. These funds usually
have higher management fees due to active involvement.
 Passively Managed Funds: These funds aim to replicate the performance of
a specific index, such as Nifty 50 or Sensex, without active trading. They have
lower management costs.
 Exchange-Traded Funds (ETFs): ETFs are passively managed funds traded
on stock exchanges like individual stocks. They have a low expense ratio and
provide high liquidity.

3. Based on Commodity Investments

Some mutual funds focus on commodities such as agricultural products, metals,

and energy.

 Agriculture-Based Funds: These invest in agricultural commodities like

food crops, spices, and fibres such as cotton.
 Industrial Metals: These funds focus on metals like steel, copper, and
aluminium.
 Precious Metals: They primarily invest in valuable metals like gold, silver,
and platinum.
 Energy Products: These funds invest in commodities like oil, natural gas, and
coal.

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 INVESTMENT AND PORTFOLIO MANAGEMENT

4. Based on Geography (International Funds)

International mutual funds invest in securities of foreign markets.

 International Equity Funds: These invest in shares of companies listed

outside India.
 Feeder Funds: A domestic mutual fund that invests in an existing fund
located in a foreign market.
 Global Funds: These funds invest in a combination of domestic and
international securities, providing global diversification.

5. Fund of Funds (FOFs)

FOFs are mutual funds that invest in other mutual funds rather than directly in
stocks or bonds. These funds help diversify investments across different
categories and asset classes.

6. Based on Investment Objective

Mutual funds are also categorized based on the financial goals they aim to
achieve.

 Equity Funds: These primarily invest in stocks. They are high-risk but offer
the potential for high returns. Examples include large-cap, mid-cap, and small-
cap funds.
 Debt Funds: These invest in fixed-income securities like bonds and treasury
bills. They are less risky and provide steady returns.
 Hybrid Funds: These funds combine equity and debt investments to balance
risk and returns.

7. Infrastructure Debt Funds (IDFs)

IDFs are funds that focus on infrastructure development projects. They are
closed-ended with a minimum lock-in period of 5 years. These funds typically
allocate 90% to debt and 10% to equity investments.

8. Real Estate Funds

These funds invest in real estate projects or income-generating real estate assets.

 Real Estate Mutual Funds: They invest in shares of companies involved in

real estate.

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 INVESTMENT AND PORTFOLIO MANAGEMENT

 Real Estate Investment Trusts (REITs): These are pooled investment

vehicles that invest in commercial properties and distribute rental income to
investors. They are regulated by SEBI.

Summary Chart for Quick Reference:

Type Subcategories Risk Return Lock-In

Open-Ended, Close-
Duration Varies Varies Varies
Ended, Interval

Activity Level Active, Passive, ETFs High/Low High/Low None

Commodity, Real Medium- Medium-

Asset Class Varies
Estate High High

Foreign Securities,
International High High Varies
Feeder Funds

Fund of Funds
Multi-Manager Funds Low Moderate None
(FoF’s)

Focus on infra
Infrastructure Minimum 5
companies (90% debt, Low Moderate
Debt Funds years
10% equity)

Investment
Equity, Debt, Hybrid High/Low High/Low Varies
Objective

Conclusion

Mutual funds offer a wide variety of schemes to cater to the diverse needs of
investors. Each type has its unique features, risks, and benefits. Choosing the right
mutual fund depends on the investor’s financial goals, risk appetite, and
investment horizon.

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 INVESTMENT AND PORTFOLIO MANAGEMENT

BENEFITS OF MUTUAL FUNDS:

1. Spreads Risk

 Instead of putting all your money into one stock or bond, mutual funds spread
your money across many different investments. This lowers the chance of big
losses.

2. Expert Management

 Professionals handle the buying and selling of investments for you, so you
don’t have to worry about tracking the market yourself.

3. Start Small

 You don’t need a lot of money to begin investing. In India, for example, you
can start with just ₹500 through a SIP (Systematic Investment Plan).

4. Easy to Access Your Money

 You can withdraw your money from mutual funds anytime (for most types),
making them a flexible option if you need cash.

5. Tax Savings

 Some mutual funds, like ELSS, help you save on taxes under Section 80C.

6. Transparent and Clear

 You’ll know where your money is invested and how the fund is performing.
Regular updates make it easy to track.

7. Fits Everyone’s Needs

 Whether you want high returns, steady income, or low risk, there’s a mutual
fund for you.

8. Cost-Effective

 Since many people pool their money together, the cost of managing the fund
is shared, making it cheaper for everyone.

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9. Convenient

 You can invest online, through apps, or with help from an advisor. It’s easy to
start and manage.

10. Regular Income Options

 Some funds give you regular pay-outs, which is great if you’re looking for
steady cash flow.

In Short:

Mutual funds are like giving your money to a team of experts who invest it wisely,
letting you relax and watch your money grow over time. They're flexible,
affordable, and suitable for all kinds of financial goals!

3. NAV [NET ASSET VALUE]

Net Asset Value (NAV) is the value per unit of a mutual fund and is used to
measure the current worth of your investment. It represents the total value of all
the fund's assets (like stocks, bonds, and cash) minus its liabilities, divided by the
total number of units issued to investors. NAV is calculated daily based on the
market closing prices of the fund's assets.

NAV Formula

𝑻𝒐𝒕𝒂𝒍 𝑨𝒔𝒔𝒆𝒕𝒔 − 𝑻𝒐𝒕𝒂𝒍 𝑳𝒊𝒂𝒃𝒊𝒍𝒊𝒕𝒊𝒆𝒔

𝑵𝑨𝑽 =
𝑻𝒐𝒕𝒂𝒍 𝑼𝒏𝒊𝒕𝒔 𝑶𝒖𝒕𝒔𝒕𝒂𝒏𝒅𝒊𝒏𝒈

Components of NAV Calculation:

1. Total Assets: Includes the current market value of all investments held by the
fund, such as stocks, bonds, cash reserves, dividends received, and interest
income.
2. Total Liabilities: Comprises expenses like fund management fees,
operational costs, and any outstanding debts or obligations of the fund.
3. Units Outstanding: The total number of mutual fund units held by investors.

How NAV Works in Mutual Funds:

 When Buying Units: NAV determines the price at which you buy units in a
mutual fund. For example, if a fund's NAV is ₹20 and you invest ₹10,000,
10,000
you’ll receive = 500 units.
20

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 INVESTMENT AND PORTFOLIO MANAGEMENT

 When Selling Units: NAV also determines the price at which you can sell
units. If the NAV increases to ₹25, the value of your 500 units becomes
500 × 25 = ₹12,500.

Example of NAV Calculation:

A mutual fund has the following:

 Total assets: ₹1,000 crore

 Total liabilities: ₹50 crore
 Units outstanding: 20 crore

(𝟏, 𝟎𝟎𝟎 − 𝟓𝟎)

𝑵𝑨𝑽 = = ₹𝟒𝟕. 𝟓𝟎
𝟐𝟎

This means the NAV is ₹47.50 per unit.

Important Points About NAV:

1. Daily Calculation: NAV is updated at the end of every trading day, based on
the closing market prices of the fund’s holdings.
2. NAV vs. Fund Performance: A high or low NAV doesn’t indicate better or
worse performance. NAV reflects the fund's current value, while performance
depends on the growth of the investment over time.

For example, a fund with a NAV of ₹15 could outperform a fund with a NAV
of ₹150 if it has better returns.

3. Impact of Dividends and Distributions: When a mutual fund declares

dividends or capital gains, the NAV reduces by that amount. For example, if
the NAV is ₹50 and a ₹5 dividend is paid, the NAV will drop to ₹45.
4. Not Comparable Across Funds: NAV values differ due to the fund's age,
type, and investment strategy, so comparing NAVs across funds is not
meaningful.

Why is NAV Important?

1. Entry and Exit Price: NAV helps you determine the number of units you’ll
receive when investing or redeeming your investment.
2. Track Investment Value: By multiplying the NAV with the number of units
you hold, you can track the current worth of your investment.
3. Transparency: NAV provides a clear and straightforward way to understand
a fund's value at any given time.

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 INVESTMENT AND PORTFOLIO MANAGEMENT

Types of NAV in Mutual Funds:

1. Growth NAV: No payouts (like dividends) are made. All profits are
reinvested, leading to higher NAV over time.
2. Dividend NAV: When a fund pays dividends, the NAV reduces by the payout
amount.
3. NAV for Direct Plans vs. Regular Plans:

Direct Plans: Have slightly higher NAVs due to lower expense ratios (no
distributor commissions).

Regular Plans: NAVs are slightly lower because of higher management

costs.

NAV in Relation to Mutual Fund Performance:

 NAV helps track growth or decline in your investment value, but it doesn't
directly indicate returns. For performance analysis, consider absolute
returns, CAGR (Compound Annual Growth Rate), and other metrics.

For example:

 If you invest in a mutual fund with an NAV of ₹20 and the NAV grows to ₹24
after one year, your return is:

𝟐𝟒 − 𝟐𝟎
𝑹𝒆𝒕𝒖𝒓𝒏 = × 𝟏𝟎𝟎 = 𝟐𝟎%
𝟐𝟎

Conclusion:

NAV is an essential tool to understand the value of a mutual fund. However,

always focus on the fund's overall returns, risk levels, and investment objectives
rather than solely relying on the NAV figure.

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4. ENTRY AND EXIT LOAD

Entry and Exit Load are charges or fees that some mutual funds impose when
you buy or sell units of the fund. These fees are meant to cover the administrative
and transaction costs associated with managing your investment.

1. Entry Load

 Definition: A fee charged at the time of purchasing mutual fund units.

 Purpose: To cover the cost of selling and distribution.

Example of Entry Load:

If you invest ₹10,000 in a mutual fund with a 2% entry load:

 Entry Load = 𝟐% × ₹𝟏𝟎, 𝟎𝟎𝟎 = ₹𝟐𝟎𝟎

 Amount Invested = ₹𝟏𝟎, 𝟎𝟎𝟎 − ₹𝟐𝟎𝟎 = ₹𝟗, 𝟖𝟎𝟎

💡 Note: In India, entry loads have been abolished by SEBI since August 2009,
so mutual funds no longer charge entry fees.

2. Exit Load

 Definition: A fee charged when you sell or redeem your mutual fund units. It
discourages early withdrawal and ensures long-term investment.
 Purpose: To cover transaction costs and to dissuade investors from frequent
withdrawals.

When Exit Load is charged:

 Exit loads are generally applied if you redeem your units within a specific time
frame (e.g., 6 months, 1 year). After this period, the load is waived.
 The rate can vary but typically ranges from 0.5% to 1%.

Example of Exit Load:

If you redeem ₹50,000 worth of mutual fund units within the applicable time
frame and the exit load is 1%:

 Exit Load = 𝟏% × ₹𝟓𝟎, 𝟎𝟎𝟎 = ₹𝟓𝟎𝟎

 Redemption Amount = ₹𝟓𝟎, 𝟎𝟎𝟎 − ₹𝟓𝟎𝟎 = ₹𝟒𝟗, 𝟓𝟎𝟎

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 INVESTMENT AND PORTFOLIO MANAGEMENT

Why are These Loads Important?

1. For Investors:

 Exit loads impact the amount you receive on redemption, so it's essential to
understand the terms before investing.
 No entry load means all your money gets invested upfront.

2. For Fund Management:

 Helps mutual funds recover costs related to buying, selling, or marketing units.

Key Points to Remember:

 No Entry Load: Since 2009, mutual funds in India do not charge entry loads.
 Exit Load Varies:

Usually applies only for short-term redemptions (e.g., within a year).

Long-term investors often avoid exit loads entirely.

 Check the Fund’s Scheme Information Document (SID): This document

specifies the exit load structure and conditions.

Conclusion:

 Entry Load: No longer applicable in India.

 Exit Load: A charge to consider if you plan to withdraw early. For long-term
investors, exit loads rarely impact returns. Always review the fund’s terms
before investing!

5. RISK IN MUTUAL FUNDS

1. Market Risk

 Meaning: The value of your investment can go up or down due to changes in

the stock or bond markets.
 Example: If the stock market crashes, the value of equity mutual funds may
fall because they are directly linked to stock performance.
 How to manage: Diversify your investments and choose funds based on your
risk tolerance.

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 INVESTMENT AND PORTFOLIO MANAGEMENT

2. Credit Risk

 Meaning: This applies to debt mutual funds. If the companies or government

entities issuing bonds default on their payments, your fund might lose money.
 Example: A debt fund investing in low-rated corporate bonds may face losses
if the company can’t repay its loans.
 How to manage: Check the credit ratings of the bonds held by the fund and
opt for funds with high-quality (AAA-rated) bonds.

3. Interest Rate Risk

 Meaning: Changes in interest rates affect debt mutual funds. If interest rates
rise, bond prices drop, which can reduce the value of your fund.
 Example: A debt fund holding long-term bonds may lose value when interest
rates increase because new bonds will offer better returns.
 How to manage: Invest in short-term debt funds if you expect rising interest
rates.

4. Liquidity Risk

 Meaning: This occurs when a mutual fund can’t sell its investments quickly
to meet redemption requests.
 Example: A fund holding illiquid assets like real estate or small-cap stocks
may struggle to sell them during market downturns.
 How to manage: Choose funds that invest in liquid and actively traded assets.

5. Inflation Risk

 Meaning: Inflation can reduce the purchasing power of your returns. If the
fund’s returns are less than inflation, you’re effectively losing money.
 Example: A debt fund giving 5% returns when inflation is at 6% means your
real return is negative (-1%).
 How to manage: Invest in equity or equity-oriented funds that historically
outperform inflation over the long term.

6. Fund Manager Risk

 Meaning: The performance of a mutual fund depends on the decisions of the

fund manager. Poor decisions can negatively impact returns.
 Example: A fund manager might invest heavily in a single sector that
underperforms, dragging down the fund’s value.
 How to manage: Check the track record and experience of the fund manager
before investing.

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 INVESTMENT AND PORTFOLIO MANAGEMENT

7. Regulatory Risk

 Meaning: Changes in government policies, tax laws, or regulations can affect

mutual fund investments.
 Example: If the government changes tax rules on capital gains, it can impact
the overall returns of your fund.
 How to manage: Stay updated on regulatory changes and adjust your
investments accordingly.

Final Tip:

While risks are a part of mutual funds, they can be managed with proper planning:

 Diversify your portfolio.

 Align investments with your financial goals and risk tolerance.
 Consult a financial advisor if needed.

Understanding these risks will help you make informed decisions and achieve
better outcomes!

6. FLOW CHART OF MUTUAL FUND

Types of mutual funds

2. Based
1.Based on 3. Based on 4. Based on 8. Real
on level of
duration commodity geograpgy 5. Funds estate
activity 6. Based on 7.
(Time funds (a) of funds funds
period) (a) investment Infrastructu (a) Real
(a) International (FOFs) objective re debt
Actively estate
(a) open- Agriculture equity funds (a) Equity funds
managed mutual
ended funds funds (b) Feeder funds (IDFs)
funds funds
(b) close- (b) Industrial funds (b) Debt (b) Real
(b) funds
ended funds metals (c) Global estate
paasively (c) Hybrid
(c) Interval managed (c) Precious funds investm
funds ent trust
funds funds metals
(c) ETF's (d) Energy
products

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 INVESTMENT AND PORTFOLIO MANAGEMENT

7. AMC’S [ASSETS MANAGEMENT COMPANIES]

An Asset Management Company (AMC) is a professional financial institution

that manages investments and creates mutual funds. It pools money from
investors and invests it in various financial instruments like stocks, bonds, real
estate, and more. The goal of an AMC is to generate returns for investors while
managing risks effectively.

Key Functions of an AMC

1. Fund Management

 Designs and manages mutual fund schemes based on specific investment

objectives.
 Allocates funds across different asset classes to maximize returns.

2. Portfolio Diversification

 Ensures investments are spread across various sectors, industries, or asset

types to reduce risk.

3. Professional Expertise

 Employs fund managers, researchers, and analysts to make informed

investment decisions.

4. Compliance and Regulation

 Operates under the regulations of governing bodies (e.g., SEBI in India) to

ensure transparency and protect investors' interests.

5. Customer Support

 Provides services like online account access, portfolio tracking, and regular
updates about fund performance.

Benefits of Investing through an AMC

1. Expertise: AMCs hire experienced professionals to manage your money,

which is especially helpful for investors lacking time or knowledge.
2. Diversification: AMCs ensure that your investments are spread across
various instruments, reducing risks.
3. Convenience: Investors can choose from a range of funds suited to different
financial goals and risk tolerances.

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 INVESTMENT AND PORTFOLIO MANAGEMENT

4. Transparency: Regular disclosures about fund performance, fees, and

holdings keep investors informed.
5. Affordability: Allows small investments through SIPs (Systematic
Investment Plans), making mutual funds accessible to retail investors.

Revenue of AMCs

AMCs earn by charging fees for managing funds, known as the expense ratio. It
includes fund management fees, operational costs, and administrative expenses.
A lower expense ratio means more returns for investors.

Examples of Top AMCs in India

1. HDFC Asset Management Company

2. ICICI Prudential Asset Management Company
3. SBI Mutual Fund
4. Aditya Birla Sun Life AMC
5. Nippon India Asset Management

AMC’s Role in Mutual Funds

AMCs act as the backbone of mutual funds. They manage the entire process, from
creating funds to monitoring investments and providing returns to investors.
Investing through an AMC simplifies the process for individuals while ensuring
professional management of their money.

8. BASICS OF EXCHANGE TRADED FUNDS (ETFS) AND OVERVIEW

ON SYSTEMATIC INVESTMENT PLAN (SIP).
BASICS OF EXCHANGE TRADED FUNDS (ETFS)

An Exchange-Traded Fund (ETF) is a type of investment fund that is traded on

stock exchanges, similar to stocks. ETFs hold a collection of assets, such as
stocks, bonds, or commodities, and aim to track the performance of a specific
index, sector, or theme.

Key Features of ETFs

1. Traded on Exchanges

 ETFs are bought and sold on stock exchanges, just like company shares,
during market hours.

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 INVESTMENT AND PORTFOLIO MANAGEMENT

2. Passive Management

 Most ETFs are passively managed and aim to replicate the performance of an
underlying index (e.g., Nifty 50, S&P 500).

3. Diversification

 By investing in an ETF, you gain exposure to a broad range of securities,

reducing the risk associated with individual investments.

4. Low Cost

 ETFs have lower expense ratios compared to mutual funds because they are
passively managed.

5. Real-Time Pricing

 The price of an ETF fluctuates throughout the trading day, unlike mutual
funds, which are priced only at the end of the day.

6. Liquidity

 ETFs can be easily bought or sold on stock exchanges, providing high

liquidity.

7. Transparency

 ETFs disclose their holdings daily, making it easy for investors to know where
their money is invested.

How ETFs Work

1. Creation: ETFs are created by fund managers by pooling assets (e.g., stocks
or bonds) that replicate the performance of an index.
2. Trading: Investors can buy ETF units through a stockbroker during market
hours at prevailing market prices.
3. Tracking an Index: ETFs mirror the performance of an underlying index by
holding the same securities in the same proportions as the index.
4. Dividends and Returns: ETFs may distribute dividends or reinvest them,
depending on the fund's policy.

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 INVESTMENT AND PORTFOLIO MANAGEMENT

Types of ETFs

1. Equity ETFs: Track stock market indices like Nifty 50 or S&P 500.
2. Debt ETFs: Invest in bonds and debt instruments.
3. Commodity ETFs: Track the performance of commodities like gold, silver,
or oil.
4. Sector/Thematic ETFs: Focus on specific industries like technology,
banking, or renewable energy.
5. International ETFs: Allow investors to gain exposure to global markets.

Benefits of ETFs

1. Cost-Efficiency: Lower expense ratios compared to actively managed funds.

2. Flexibility: Can be traded anytime during market hours.
3. Diversification: Provides exposure to a broad range of assets in a single
investment.
4. Accessibility: Allows small investors to gain exposure to indices or
commodities.
5. Transparency: Daily disclosure of holdings.

Risks of ETFs

1. Market Risk: ETF value fluctuates with market movements.

2. Tracking Error: Small differences between ETF performance and the index
it tracks.
3. Liquidity Risk: Some ETFs may have lower trading volumes, making them
harder to buy or sell.
4. Lack of Active Management: Unlike mutual funds, ETFs don’t try to
outperform the market.

Example of ETFs in India

1. Nifty 50 ETF: Tracks the Nifty 50 Index.

2. Gold ETF: Tracks gold prices.
3. SBI ETF Sensex: Tracks the Sensex index.

Conclusion

ETFs are a simple, cost-effective way to invest in a diverse range of assets with
the convenience of stock market trading. They are ideal for investors looking for
passive, low-cost investments and exposure to various markets or sectors.

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 INVESTMENT AND PORTFOLIO MANAGEMENT

OVERVIEW ON SYSTEMATIC INVESTMENT PLAN (SIP)

A Systematic Investment Plan (SIP) is a disciplined way to invest in mutual

funds by making regular, fixed contributions over a period of time. It allows
investors to build wealth gradually and take advantage of market fluctuations.

How SIP Works

1. Investment Setup: Select a mutual fund scheme and choose the SIP amount
and frequency.
2. Unit Allocation: Based on the NAV (Net Asset Value) of the mutual fund on
the day of investment, units are credited to your account.
3. Portfolio Growth: As investments accumulate over time, the portfolio grows
based on the performance of the mutual fund.

Benefits of SIP

1. Affordable: SIPs allow small, regular investments, making them accessible

to all income levels.
2. Reduces Market Timing Risks: By investing regularly, you don’t need to
worry about entering the market at the "right time."
3. Disciplined Investment: Automating investments ensures consistent saving,
even during market downturns.
4. Power of Compounding: The longer you stay invested, the more your returns
compound, leading to significant growth.
5. Goal-Oriented: SIPs are ideal for achieving financial goals like buying a
house, education, or retirement.

SIP vs. Lump Sum Investment

Aspect SIP Lump Sum

Investment Regular, small

One-time, large investment
Style contributions

Reduces the impact of

Market Timing Risky if markets are volatile
timing

Ideal for salaried Suitable for those with surplus

Suitability
individuals funds

Risk Mitigation Mitigates market volatility Exposed to market timing risks

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 INVESTMENT AND PORTFOLIO MANAGEMENT

Example of SIP Growth

 SIP Amount: ₹5,000 per month

 Duration: 10 years
 Annual Return: 12%

Future Value = ₹11.6 lakh (approximately)

Details Example

Scheme HDFC Small Cap Fund - Direct Plan

Type of SIP Regular SIP (monthly contributions)

Investment Amount ₹2,000 per month

Investment Period 5 years

Start Date January 2024

Fund Objective To invest in small cap stocks for long-term growth

Expected Annual
12% p.a.
Returns

NAV at Start ₹30

Expected Growth in
Calculation based on investment amount and returns
Units

Tax Implications LTCG (Long-Term Capital Gains) tax on returns

Expense Ratio 1.5% p.a.

- Diversification into small-cap stocks

- Regular saving discipline
Benefits - Compounding benefits
- Lower risk compared to investing in individual
stocks

- High volatility due to exposure to small-cap stocks

- Risk of underperformance compared to larger
Risks
companies
- Market risk associated with equity investments

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 INVESTMENT AND PORTFOLIO MANAGEMENT

How the SIP Works

1. Monthly Contribution: ₹2,000 invested at the NAV of ₹30 per unit.

2. Unit Purchase: At the start, each ₹2,000 buys approximately 66.67 units
(₹2,000 ÷ ₹30).
3. Monthly Compounding: With an expected return of 12% p.a., each unit value
grows over time.
4. End of SIP Period: At the end of 5 years, assuming consistent investment and
returns, the investment value grows significantly.

Example Calculation (5 Years Later)

 Monthly Contribution: ₹2,000 x 60 months = ₹1,20,000

 Expected Annual Growth Rate: 12% p.a.
 Estimated Value at 5 Years:
(1+0.12)6 0−1
𝑉𝑎𝑙𝑢𝑒 = ₹2,000 ×
0.12
≈ ₹1,58,500 𝑎𝑝𝑝𝑟𝑜𝑥

This example illustrates how a systematic approach like SIP can help build wealth
over time, leveraging market growth and compounding benefits.

Types of SIP

1. Top-Up SIP: Increase the SIP amount periodically to match income growth.
2. Flexible SIP: Adjust contribution amounts based on your financial situation.
3. Perpetual SIP: No fixed end date; continues until you decide to stop it.
4. Goal-Based SIP: Designed for specific financial goals, like retirement or
education.

Conclusion

A SIP is an excellent investment option for individuals who want to build wealth
steadily, without worrying about market timing. It promotes financial discipline,
mitigates risk, and leverages the benefits of compounding, making it a preferred
choice for long-term investors.

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