Investments: Objectives, Decision Making, and Goals

Unit – I: Investments
 
 
Investment is the current commitment of
money for a particular period of time in
order to derive anticipated future benefits
that will compensate for:
   a) The 
time
 
for which funds are
committed.
   b) The expected rate of 
Inflation
.
   C) The 
uncertainty
 
of future payment.
Definition of Investment:
2
 
Investments refers
:
To sacrifice of current resources in anticipation of
a future benefit.
Involves commitment of certain current cash flow
in anticipation of an uncertain future cash flows.
Involves employment of own funds or borrowed
funds on a real or financial asset for a certain
period of time in anticipation of a return in
future.
Refers to postponement of current consumption
in anticipation of a future benefit.
The investor can be an Individual, Government,
Pension fund, or a Corporation.
3
 
Higher the Risk, Higher is the Expected Return.
A well diversified Portfolio reduces
Unsystematic risk by a large way.
Higher the time period of investment, lesser is
the uncertainties of Investment.
Investor prefers among securities which yield
higher return for the same risk or lower risk for
the same return.
Investment decisions are based on Investment
objectives and Constraints.
Nature and Scope of Investment Decision:
4
 
 
Based on Time period and Priority, Investment
Objectives can be classified into:
 
Near term high priority goals.
 
Long term high priority goals.
 
Low priority goals.
 
Entrepreneurial or Money making goals.
INVESTMENT OBJECTIVES/GOALS:
5
 
 
The primary objective of any Investment is to
increase the rate of return and to reduce the
risk. However the other 
Objectives
 of
Investment include:
1.
Return.
2.
Risk.
3.
Liquidity.
4.
Hedge against Inflation.
5.
Safety.
INVESTMENT OBJECTIVES/GOALS:
6
Process of Investment Decision
Making
 
The Process of Investment Decisions Making
involves five Stages:
1)
Investment Policy
2)
Investment Analysis
3)
Valuation of Securities
4)
Portfolio Construction
5)
Portfolio Evaluation and Revision.
 
Investments are carefully thought out decisions
which involves calculated risk whereas
speculation on the other hand is based on
rumors, hearsay, tips etc.
An investor has a relatively longer time horizon
compared to that of a speculator.
An investor is generally risk averse whereas a
speculator is generally risk prone.
An investor’s expected return is consistent with
the underlying risk of the investment whereas
risk assumed by a speculator and his anticipated
return is disproportionate.
INVESTMENT Vs SPECULATION:
8
 
Investments are generally made based on
fundamentals whereas Speculations are done
based on rumors, tips etc
An Investor generally uses his own funds
whereas a speculator normally goes for
borrowed funds to leverage his investments.
The volumes of trade of an investor is
generally smaller than that of a speculator.
Investor generally follows passive approach
whereas speculator follows an active
approach.
9
 
Investor generally invests in a well diversified portfolio
whereas speculator generally puts his money only in one or
few stocks.
 
Investor looks to profit from per unit return whereas
Speculator looks to profit from bigger volumes of trade and
gains from leverage effect.
 
Investor expects regular income in the form of dividends
whereas Speculator looks for Capital appreciation.
10
Security investments are traded in the market
and are transferable in nature. Ex: Shares,
Debentures etc.
Non Security investments are neither traded
nor transferable. Ex: Post office savings
deposits, Deposits with commercial banks,
etc.
Security Vs Non Security:
11
Bank Deposits
Post office Deposits
Insurance
Mutual Fund
Equities share
Preference shares
Debentures.
Bonds
INVESTMENT AVENUES OR
ALTERNATIVES OR CHANNELS
12
Real estate.
Provident fund.
Derivative market.
Commodity market.
Currency market.
Gold.
Money market instruments.
Precious and Artistic articles.
INVESTMENT AVENUES OR
ALTERNATIVES
13
Expected Return (ROI).
Risk.
Marketability.
Tax benefit (IF ANY).
Convenience / ease.
INVESTMENT ATTRIBUTES:
14
Setting up of Investment Objectives.
Choice of Asset mix.
Formulation of Portfolio strategy.
Selection of securities.
Portfolio Execution.
Portfolio Revision.
Portfolio Evaluation.
15
INVESTMENT PROCESS
Meaning of Risk:
In the financial world, risk can be defined as
“any event or possibility of an event which can
impair corporate earnings or cash flow over
short/medium/long-term horizon.”
In other words, the potential for future
returns to vary from the expected returns is
risk.
The concept of Risk:
An unwanted event which may or may not occur.
The cause of an unwanted event which may or
may not occur.
The probability of an unwanted event which may
or may not occur.
The statistical expectation value of unwanted
events which may or may not occur.
The fact that a decision is made under conditions
of known probabilities (“decision making under
risk”)
Need and Scope of Risk:
All organisations deal with risks, though the nature
and magnitude may differ for each type of
organisation.
This is especially true for banks/financial
institutions, as they deal with money. They act as
financial intermediaries in any economic system.
They help in mobilizing household/corporate
savings and making them available to deficit units
by way of providing loans.
19
Risk-Return Trade-Off:
 
The relation between 
risk and
return
 that usually 
holds
, in which one
must be willing to 
accept
 greater 
risk
 if
one wants to pursue
greater 
returns
also called
 risk/reward
trade-off.
20
SOURCES & TYPES OF RISK:
Sources of Risk:
The following are the different sources of risk:
1)
Interest Rate Risk
2)
Market Risk
3)
Inflation Risk
4)
Business Risk
5)
Financial Risk
6)
Liquidity Risk
7)
Exchange Rate Risk
8)
Country Risk
21
TYPES OF RISK:
The following are the different types of risk:
1)
Systematic Risk:
Virtually all securities have some systematic
 risk, whether bonds or stocks, because
systematic risk directly encompasses the
interest  rate, market, and inflation risks.
The investor cannot escape this part of the
risk, because no matter how well he or she
diversifies, the risk of the overall market
cannot be avoided.
22
2) Non Systematic Risk:
Non-Systematic Risk is the variability in
a security’s total returns not related to
overall market variability is called the
non-systematic risk.
Although all securities tend to have
some non-systematic risk, it is
generally connected with common
stocks.
RISK AVERSION:
Risk aversion is the reluctance of a person to accept a
bargain with an uncertain payoff rather than another
bargain with a more certain, but possibly
lower, 
expected payoff
.
For example, a risk-averse investor might choose to put
his or her money into a 
bank
 account with a low but
guaranteed interest rate, rather than into a 
stock
/mutual
fund that may have high expected returns, but also
involves a chance of losing value
.
Risk Aversion & Risk Premium
23
Risk premium
 is the minimum amount of
money by which the 
expected return
 on a
risky asset
 must exceed the known return on
risk-free asset
, or the expected return on a
less risky asset, in order to induce an
individual to hold the risky asset rather than
the risk-free asset. (Note that risk premia may
be negative.) Thus it is the
minimum 
willingness to accept
 compensation
for the 
risk
.
RISK PREMIUM
24
FUNDAMENTAL ANALYSIS –is the approach
that uses information derived from supply and
demand factors to anticipate price
movements.
Fundamental analysts use monthly reports
that project supply and demand factors for a
particular commodity, along with information
from various associations.
FUNDAMENTAL & TECHNICAL
ANALYSIS
25
Technical analysis 
is the approach that uses
futures price charts to anticipate price
movements.
Technical analysts use bar charts of market
trends and turning points to develop price
forecasts.
They also use price movements from past
days, weeks, months, and years to research
price trends.
Technical analysis
26
In 
finance
, the 
efficient-market
hypothesis
 (
EMH
), or the 
joint hypothesis
problem
, state that 
financial markets
 are
"informationally efficient".
In consequence of this, one cannot consistently
achieve returns in excess of average market
returns on a 
risk-adjusted basis
, given the
information available at the time the investment
is made.
Efficient Market Hypothesis
27
There are three major versions of the hypothesis:
1)
"weak":
 The weak-form EMH claims that prices
on traded 
assets
 (
e.g.,
 
stocks
bonds
, or
property) already reflect all past publicly
available 
information
.
2)
"semi-strong":
 The semi-strong-form EMH
claims both that prices reflect all publicly
available information and that prices instantly
change to reflect new public information.
3)
"strong":
 The strong-form EMH additionally
claims that prices instantly reflect even hidden
or "insider" information.
28
A theory of finance that attempts to explain the
decisions of investors by viewing them as rational
actors looking for their self-interest, given the
sometimes 
inefficient
 nature of the market.
 The Theory of Moral Sentiments, one of its
primary observations holds that investors and
people in general make decisions on imprecise
impressions and beliefs rather than rational
analysis.
 
(Ex: Muhurth Trading on the day of Diwali).
Behavioral Finance
29
A second observation states that the way a
question or problem is framed to an investor
will influence the decision he/she ultimately
makes.
These two observations largely explain market
inefficiencies; that is, behavior finance holds
that markets are sometimes inefficient
because people are not mathematical
equations.
30
Heuristic-Driven Bias
 
Heuristic-Driven Bias refers to the process
by which people find things out for
themselves, usually by trial and error.
Trial and error leads people to develop
rules of thumb which often causes errors.
 
Heuristic-Driven Bias
 
Representativeness
 
> Refers to judgments based on
   stereotypes.
 
> People believe that a small
   sample is representative of the
   entire population.
 
Heuristic-Driven Bias
 
Overconfidence
 
> People set overly narrow
   confidence intervals.
 
> They get surprised more
   frequently than they
   anticipate.
 
Heuristic-Driven Bias
 
Anchoring-and-Adjustment:
 
> People do not adjust their
   expectations sufficiently in
   response to new information.
 
> They are anchored to their
   initial expectations.
 
 
 
 
End of Unit-1
Thank You!!!
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Investments involve committing money for future benefits, balancing risk and return. The nature, scope, and objectives of investments guide decision-making processes, considering factors like time, risk, and diversification. Investment goals range from short-term to long-term priorities, aiming to increase returns, manage risks, ensure liquidity, and hedge against inflation. The investment process includes defining policies, analyzing options, valuing securities, constructing portfolios, and evaluating performance. Differentiating investments from speculation is essential for making informed financial decisions.

  • Investments
  • Objectives
  • Decision Making
  • Goals
  • Risk Management

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  1. Unit I: Investments

  2. Definition of Investment: Investment is the current commitment of money for a particular period of time in order to derive anticipated future benefits that will compensate for: a) The time for committed. b) The expected rate of Inflation. C) The uncertainty of future payment. which funds are 2

  3. Investments refers: To sacrifice of current resources in anticipation of a future benefit. Involves commitment of certain current cash flow in anticipation of an uncertain future cash flows. Involves employment of own funds or borrowed funds on a real or financial asset for a certain period of time in anticipation of a return in future. Refers to postponement of current consumption in anticipation of a future benefit. The investor can be an Individual, Government, Pension fund, or a Corporation. 3

  4. Nature and Scope of Investment Decision: Higher the Risk, Higher is the Expected Return. A well diversified Unsystematic risk by a large way. Higher the time period of investment, lesser is the uncertainties of Investment. Investor prefers among securities which yield higher return for the same risk or lower risk for the same return. Investment decisions are based on Investment objectives and Constraints. Portfolio reduces 4

  5. INVESTMENT OBJECTIVES/GOALS: Based on Time period and Priority, Investment Objectives can be classified into: Near term high priority goals. Long term high priority goals. Low priority goals. Entrepreneurial or Money making goals. 5

  6. INVESTMENT OBJECTIVES/GOALS: The primary objective of any Investment is to increase the rate of return and to reduce the risk. However the other Objectives of Investment include: 1. Return. 2. Risk. 3. Liquidity. 4. Hedge against Inflation. 5. Safety. 6

  7. Process of Investment Decision Making The Process of Investment Decisions Making involves five Stages: 1) Investment Policy 2) Investment Analysis 3) Valuation of Securities 4) Portfolio Construction 5) Portfolio Evaluation and Revision.

  8. INVESTMENT Vs SPECULATION: Investments are carefully thought out decisions which involves calculated speculation on the other hand is based on rumors, hearsay, tips etc. An investor has a relatively longer time horizon compared to that of a speculator. An investor is generally risk averse whereas a speculator is generally risk prone. An investor s expected return is consistent with the underlying risk of the investment whereas risk assumed by a speculator and his anticipated return is disproportionate. risk whereas 8

  9. Investments are generally made based on fundamentals whereas Speculations are done based on rumors, tips etc An Investor generally uses his own funds whereas a speculator normally goes for borrowed funds to leverage his investments. The volumes of trade of an investor is generally smaller than that of a speculator. Investor generally follows passive approach whereas speculator approach. follows an active 9

  10. Investor generally invests in a well diversified portfolio whereas speculator generally puts his money only in one or few stocks. Investor looks to profit from per unit return whereas Speculator looks to profit from bigger volumes of trade and gains from leverage effect. Investor expects regular income in the form of dividends whereas Speculator looks for Capital appreciation. 10

  11. Security Vs Non Security: Security investments are traded in the market and are transferable in nature. Ex: Shares, Debentures etc. Non Security investments are neither traded nor transferable. Ex: Post office savings deposits, Deposits with commercial banks, etc. 11

  12. INVESTMENT AVENUES OR ALTERNATIVES OR CHANNELS Bank Deposits Post office Deposits Insurance Mutual Fund Equities share Preference shares Debentures. Bonds 12

  13. INVESTMENT AVENUES OR ALTERNATIVES Real estate. Provident fund. Derivative market. Commodity market. Currency market. Gold. Money market instruments. Precious and Artistic articles. 13

  14. INVESTMENT ATTRIBUTES: Expected Return (ROI). Risk. Marketability. Tax benefit (IF ANY). Convenience / ease. 14

  15. INVESTMENT PROCESS Setting up of Investment Objectives. Choice of Asset mix. Formulation of Portfolio strategy. Selection of securities. Portfolio Execution. Portfolio Revision. Portfolio Evaluation. 15

  16. Meaning of Risk: In the financial world, risk can be defined as any event or possibility of an event which can impair corporate earnings or cash flow over short/medium/long-term horizon. In other words, the potential for future returns to vary from the expected returns is risk.

  17. The concept of Risk: An unwanted event which may or may not occur. The cause of an unwanted event which may or may not occur. The probability of an unwanted event which may or may not occur. The statistical expectation value of unwanted events which may or may not occur. The fact that a decision is made under conditions of known probabilities ( decision making under risk )

  18. Need and Scope of Risk: All organisations deal with risks, though the nature and magnitude may differ for each type of organisation. This is especially true for banks/financial institutions, as they deal with money. They act as financial intermediaries in any economic system. They help in mobilizing household/corporate savings and making them available to deficit units by way of providing loans.

  19. Risk-Return Trade-Off: The relation between risk and return that usually holds, in which one must be willing to accept greater risk if one wants greater returns, also called risk/reward trade-off. to pursue 19

  20. SOURCES & TYPES OF RISK: Sources of Risk: The following are the different sources of risk: 1)Interest Rate Risk 2)Market Risk 3)Inflation Risk 4)Business Risk 5)Financial Risk 6)Liquidity Risk 7)Exchange Rate Risk 8)Country Risk 20

  21. TYPES OF RISK: The following are the different types of risk: 1)Systematic Risk: Virtually all securities have some systematic risk, whether bonds or stocks, because systematic risk directly encompasses the interest rate, market, and inflation risks. The investor cannot escape this part of the risk, because no matter how well he or she diversifies, the risk of the overall market cannot be avoided. 21

  22. 2) Non Systematic Risk: Non-Systematic Risk is the variability in a security s total returns not related to overall market variability is called the non-systematic risk. Although all securities tend to have some non-systematic generally connected with common stocks. risk, it is 22

  23. Risk Aversion & Risk Premium RISK AVERSION: Risk aversion is the reluctance of a person to accept a bargain with an uncertain payoff rather than another bargain with a more certain, but possibly lower, expected payoff. For example, a risk-averse investor might choose to put his or her money into a bank account with a low but guaranteed interest rate, rather than into a stock/mutual fund that may have high expected returns, but also involves a chance of losing value. 23

  24. RISK PREMIUM Risk premium is the minimum amount of money by which the expected return on a risky asset must exceed the known return on a risk-free asset, or the expected return on a less risky asset, in order to induce an individual to hold the risky asset rather than the risk-free asset. (Note that risk premia may be negative.) Thus it is the minimum willingness to accept compensation for the risk. 24

  25. FUNDAMENTAL & TECHNICAL ANALYSIS FUNDAMENTAL ANALYSIS is the approach that uses information derived from supply and demand factors to anticipate price movements. Fundamental analysts use monthly reports that project supply and demand factors for a particular commodity, along with information from various associations. 25

  26. Technical analysis Technical analysis is the approach that uses futures price charts to anticipate price movements. Technical analysts use bar charts of market trends and turning points to develop price forecasts. They also use price movements from past days, weeks, months, and years to research price trends. 26

  27. Efficient Market Hypothesis In finance, the efficient-market hypothesis (EMH), or the joint hypothesis problem, state that "informationally efficient". In consequence of this, one cannot consistently achieve returns in excess of average market returns on a risk-adjusted basis, given the information available at the time the investment is made. financial markets are 27

  28. There are three major versions of the hypothesis: 1) "weak": The weak-form EMH claims that prices on traded assets (e.g., stocks, bonds, or property) already reflect all past publicly available information. 2) "semi-strong": The semi-strong-form EMH claims both that prices reflect all publicly available information and that prices instantly change to reflect new public information. 3) "strong": The strong-form EMH additionally claims that prices instantly reflect even hidden or "insider" information. 28

  29. Behavioral Finance A theory of finance that attempts to explain the decisions of investors by viewing them as rational actors looking for their self-interest, given the sometimes inefficient nature of the market. The Theory of Moral Sentiments, one of its primary observations holds that investors and people in general make decisions on imprecise impressions and beliefs rather than rational analysis. (Ex: Muhurth Trading on the day of Diwali). 29

  30. A second observation states that the way a question or problem is framed to an investor will influence the decision he/she ultimately makes. These two observations largely explain market inefficiencies; that is, behavior finance holds that markets are sometimes inefficient because people are not mathematical equations. 30

  31. Heuristic-Driven Bias Heuristic-Driven Bias refers to the process by which people find things out for themselves, usually by trial and error. Trial and error leads people to develop rules of thumb which often causes errors.

  32. Heuristic-Driven Bias Representativeness > Refers to judgments based on stereotypes. > People believe that a small sample is representative of the entire population.

  33. Heuristic-Driven Bias Overconfidence > People set overly narrow confidence intervals. > They get surprised more frequently than they anticipate.

  34. Heuristic-Driven Bias Anchoring-and-Adjustment: > People do not adjust their expectations sufficiently in response to new information. > They are anchored to their initial expectations.

  35. End of Unit-1 Thank You!!!

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