y Investment Planning and Management LEARNING OUTCOMES ‘The learning from this che > get an insight in lation market » how to calculate it is important to understand that no single i gy is suitable for everyone. Every individual has que financial objectives and goals according to their financial requirement. tum the financial goal into reality, sound Planning including those specific estments which are appropriate to meet individual requirements is necessary. erefore, investment planning plays a crucial role in the financial planning pro- S.In order to understand and perform this step, it is typically necessary for ners to understand the concept of investment, investment plan, benefits of 'stment Planning, and various investment alternatives available at their end, 8.384 UNIT 3 : INVESTMENT PLANNING AND MANAGEMENT MEANING OF INVESTMENT aa It is defined as a Investment is essentially an asset acquired to build wealth. tion of benefits in process of utilising the money to acquire an asset in anticipat! tocks, bonds, the form of a return in the future. The investments can comprise s a ae debentures, mutual funds, real estate, derivatives, gold, silver, etc. Typi' ental) 2 asset that has the potential to generate income (interest, dividend, or r increase in value in the future is an investment. 4 Investing can be defined as directing financial resources, usually ae ae tively and efficiently into purchasing an asset that has the potential to g an income or profit. Investments consist of Financial Investment and Real Investment. Financial Investment: Financial Investment is the allocation of financial re- sources, i.e, money in financial assets. The financial assets represent the claim over the issuer of financial assets such as a company or government. Equity shares, mutual funds, bonds, and debentures are a few examples of financial assets. The motive behind financial investments is to get a return either in the form of interest/dividend or in the form of capital appreciation, where capital appreciation is an increase in the price of a financial asset from its issue price. Real Investment: Real investment is the investment in physical assets like land, machinery, car, artwork, etc. The real investment is made either for con- sumption or investment purpose. For example, the artwork is an example of real investment. Now the artwork can be used for consumption purposes as it can be a great addition to your home and can be used to add aesthetic value to your living room or it can be used for investment purposes by purchasing it at % 10,000 and selling it at % 1,00,000. INVESTMENT AND SPECULATION The terms investing and speculating are often used interchangeably, but in finance, there is a significant difference between the two terms. Investing is a process of purchasing securities with a long-term Perspective in mind and to some extent, the value and return are stable and predictable. On the other hand, speculating can be defined as buying and selling securities with high uncertainty of return and value. Generally, investors are risk-averse and expect higher returns as compensation for taking every additional risk, Individual investors can cho invest their money. Howeve: for any purpose after they other Purposes. To think al in addition to saving and is taken by an individual t ose from varied securities and investment vehicles to 1, an individual shall initiate to invest in other assets have kept sufficient savings to meet emergencies and bout the future from all perspectives it is crucial that investment plans, well-planned insurance Coverage ‘0 meet the unexpected. Hence, the two InvestmentCH, 8 : INVESTMENT PLANNING AND MANAGEMENT 8.5 uisites before framing the investment plan for any other purpose or ob- pre are savings and insurance coverage. ect jecTIVE OF INVESTMENT _ 0B: gre myriad reasons why individuals prefer to invest their money. Some ere comfortable retirement life, some invest to attain tax benefits, and desire ut their money today to meet their future requirements, such as child some tion, marriage, etc. The foremost step for framing the investment plan is educa jn the financial need purpose and risk profile and then accordingly choose toscre' ropriate plan. The goal for which the investment plan is developed or an a decides what shall be the investment program and how aggressively or (a watively investment decisions can be made. So, we can say that the financial Gy he roadmap for the investment program. The investment objectives are: al is t ; ¢ To increase the Current Income: People invest their money to generate passive income, which complements their current income. Hence, they invest in those products which offer returns regularly, for instance, bank fixed deposits, bonds, and stocks. The source of income for such investors is in the form of dividends or interest. Retirees prefer a steady monthly source of income to meet their needs and expenses, so they desire those investments which can offer high returns at low risk. Also, if any family member has an adverse health problem, the recurring medical expenses with the rise in healthcare costs can heavily affect the family budget. So, an additional income from the securities can be a vital source of income. ¢ Growth: Some investors give due importance to growth as an objective of investment. These investors invest to receive capital gain meaning thereby they invest with the vision of their invested amount growing over some time. The investment opportunities available to such investors are stock, mutual funds, real estate, commodities, etc. It is important to highlight here that the capital gain which is an increase in the amount of an asset from the price it was purchased attracts capital gain taxes, the time period of the capital gain decides whether it is a short-term capital gain or long-term capital gain and hence the percentage of tax varies. Liquidity: Liquidity means an asset or security can be converted into cash instantly without loss of initial investment. Some investors prefer to invest 'N securities that can be easily converted into cash during emergencies. Examples of liquid investments are money market funds and stocks of Companies that are actively traded on a stock exchange. a Benefit: Some people invest their money in assets and securities mainise their tax liability. A tax benefit is any tax law that helps to tigate or reduce the tax liability of an individual. There are various—_—_——_— 8.6 UNIT 3 : INVESTMENT PLANNING AND MANAGEMENT i ii ice, types of tax benefits like tax exemptions, deductions, etc. For ae the deposit, interest income earned and withdrawal from PPF, an est income on REC tax-free bonds is fully exempted from tax. Hedge against Inflation: Individuals shall keep some assets and securities from the investment universe in their portfolio to hedge against inflation, It offers protection against decreasing purchasing power due to inflation, The investment opportunities available to individual to safeguard them. selves against inflation includes buying global stocks, investing in Teal estate investment trusts (REITs), etc. When people consider inflation, they have two sets of options, either investing in an asset that is likely to increase its value over some time or taking a position that involves less fall in investment value concerning the currency value. Safety of Principal: Individual investors seek investment as a vehicle to earn a stable return but more importantly, they want assurance regarding the safety of their principal amount. Retirees looking for the safety of the principal amount as the primary objective at the time of investing. Invest- ing money in PPF, national saving certificates, etc. are some examples, INVESTMENT PLANNING Investment Planning is a core subset of financial planning. It is a process that matches how with the accumulated money one can meet their financial goals and objectives. Investment planning can be accomplished once an individual is precisely clear with his financial goals and objectives. This statement highlights that the foremost step is the identification of goals and objectives. Consequently, we design an investment plan where two sets of factors are considered: one is financial goal and objective and the second is financial resource: s (money or investment capital). An investment plan is a statement that presents how the accumulated invest- ment capital (financial resource) will be invested in financial products to attain long-term targeted financial goals. It helps in framing an investment program wherein an individual can invest periodically or a lump-sum amount in different investment plans and schemes to achieve the investment target. If we delve deeper into this concept, we can find that there are myriads of investment op- Portunities and vehicles available to an individual. For instance, cash, equities, bonds, mutual fund, etc, Therefore, it calls for smart investing from the universe of investment vehicles. A Precise and specifically made investment plan can yield better results in the future with comfortable and luxurious life. Benefits of Investment Planning ® Makes Families Financially Secure: A financially well-planned future can help to meet uncertainties in life. If in the future any uncertaintyCH. 8 : INVESTMENT PLANNING AND. MANAGEMENT 8.7 happened to the earning member of the fami to mitigate uncertainties, Meeting Major Expenditure: The maj either current income or savings. It is expenditure from today than investing The right strategy is to let the earned money work for accumulating futu: money for major expenditures. The major expenditure can be 7 see ayment on a home, money for a child's college education, any luxurious wurchase, lavishing marriage, or an expensive vacation, can help to build capital with that objective in mind, standard of Living: In difficult times, the savings produced by the invest- mentare quite beneficial. For instance, the loss of the family’s breadwinner has a significant impact on the level of life. At that point, the working person's investment serves as a valuable source of income for the family. ly such funds come to help jor expenditure involves a chunk of desirable to be prepared for such your lifetime earned Money once. . A well-to-do plan . Tax Benefit: The well-thought investment plan provides an advantage in terms of tax benefits. Various investment avenues provide tax exemption and deductions. For instance, tax benefits can be availed in insurance plans under section 80C and Section 10(10D) of the Income Tax Act, 1961. : INVESTMENT PROCESS itis clear that when an asset is purchased by an individual, he invests his money in that asset with an intention and anticipation of return or income from that asset. Step 1: Setting up the Investment Policy There are a few key considerations to be kept in mind during the initial stage of setting up the investment policy which includes: investment objectives, time horizon, and risk tolerance. The investment objectives will drive decision-mak- 'ng on whether to invest funds to have a recurring source of income or gain through capital appreciation, how much to allocate to different asset classes, and what types of investments to choose. The time horizon is the time frame nwhich an investor expects to achieve his objective. Broadly, it is categorised % short-term, medium-term, or long-term. The risk tolerance corresponds to the fluctuations in value an investor can bear. The risk-return reward is such that there is a direct relationship between risk and return. Higher risk means Potentially higher return but it also means more volatility. The investment policy statement can be framed considering all these key fac- "S. This statement will outline the overall strategy and the execution plan for ® strategy to accomplish the investment goal. It must include the investment als, asset allocation targets, and performance expectations. An investor has ‘rent investment alternatives available to choose therefore a well-defined tment Policy will help in achieving long-term goals.———— 88 UNIT 3 : INVESTMENT PLANNING AND MANAGEMENT Step 2: Developing a List of Investment Avenues Available estor for in- This step outlines the list of investment options available to an inv hosen after vesting his funds in an investment. The investment options can be ¢ considering an investor's investment objective, time horizon, and risk appetite. For example, an old man wants to invest, he would be interested in a regular source of income at low risk. In that case, investing in equity shares won't be a desirable choice and shall not be included in the list of investment avenues made to invest investors’ money, Step 3: Performing Investment Analysis Once the list of investment alternatives, according to the need and objective of an investor, is made, the next step shall include performing an analysis according to the risk and return characteristics. In the analysis step, the primary focus is to examine the risk and return of each investment option included in the list. It helps investors to make a firm decision concerning which options are under priced and which are overpriced. Step 4: Creating Portfolios, Portfolio Analysis, and Choosing a Portfolio An investor considers myriads of options to invest in and holds them to generate a return. A single investment cannot possess all the characteristics to meet the desired need of an investor. Hence, it is always desirable to make investments in different securities considering the risk-return characteristics than nesting all the money in one basket. A portfolio comprises two or more securities that may be selected by an inves- tor from the universe of the securities. So, the next step is to build a variety of portfolios that investors can acquire. It must be noted here that from a variety of portfolios, an investor selects the most favourable or efficient portfolio to meet his investment objective. An efficient portfolio can be summarised as a portfolio that can provide a maximum return at a given level of risk and minimum risk at a given level of return. Pertinently, an investor selects an optimal portfolio as per his risk-return appetite and investment goals. For example, we know that the main class of assets are equity and bonds. So, the percentage of holding each asset class is supposedly different for different investors, A young person wants to invest to acquire sub- stantial wealth in the future, so it may be an 80-20 strategy for him, ie, 80% in equity and 20% in bonds. Whereas a retired person with a different objective in mind may find a portfolio with 10% equity and 90% bonds an optimal portfolio. Step 5: Portfolio revision and Evaluation Portfolio evaluation and revision of investment decisions is a process that helps investors to assess their portfolios and make necessary changes to their invest- ment strategy. This process can be conducted regularly, or when an investor feels that there is a need to review their portfolio.CH. 8 INVESTMENT PLANNING AND MANAGEMENT 89 ting a portfolio evaluation, conducting ¢ } investors should assess thei ie ance and risk tolerance. They should also consider wha een or pe jlocation is in line with their goals and objectives. After eval i » evaluatil i investors may decide to make changes to their invest ee include selling some asse ing n reallo- anges could i iB issets, buyin, . ee 18 New assets, or reall ther their current asset ¢ changes to an investment strategy can be a wai However, it is important to remember th. nest regularly and revised as needed. By doin et a iene portfolio remains aligned with their g a difficult decision for some at portfolios should be re- $0, investors can help ensure oals and objectives, Ni investors invest by deferring their consumption in expectation of a return jam that investment in the future. To choose among varied investment assets ailable, an investor considers two main investment characteristics - return gad risk. The estimation and evaluation of risk-return trade-offs for different investments is an important component in the selection process of investments. therefore, itis essential to understand the concept and measurement of risk and etrn of different investments before delving deeper into understanding the dynamics of stocks and bonds. It may be emphasized that risk and return are inseparable. It is difficult to visualise the expected return from an investment without bearing the risk. CONCEPT OF RETURN Return can be defined as the total benefit received from an investment over a period of time expressed as a percentage of the cost of investment. The total benefit received can be in terms of dividend, interest, or capital gain from’an investment. Return can be further divided into historical return and expected return. Historical Return - The historical return can be defined as the annual return ‘amed over the holding period of investment. It is also called a realised return pected Return - The expected return can be defined as a possible return an investor anticipates earning from an investment that may or may not occur. "can be called an estimated return an investor expects to earn over a future ‘estment period, which can be let's say one year. These returns are typically *sed on the historical performance of investment along with the future expec- “ion of the industry and economy.8.10 UNIT 3 : INVESTMENT PLANNING AND MANAGEMENT MEASUREMENT OF RETURN Se Holding Period Return - in or loss over the hold- Holding period return may 1 ga : y be computed as the total 6 oo ing period of an investment expressed as a percentage of the initial investment made. It is computed as follows: Total Income + Change in price of asset from purchase P! ice Holding Period Return = Purchases price of the asset 2 te (eeoe) 7 P. 0 Where, T, = Total income (Interest/ Dividend) from the asset purchase P, = Purchase price P, = Price at the end of the holding period N = Number of years for which asset is held Ilustration: The investor wants to determine the rate of return of two stocks and it generated a dividend ‘A and B. Stock A was purchased at & 40 last year d of 22, Stock B was purchased at € 60 last year and it generated a dividend of 23. Currently, the market price of stocks A and B is 46 and %64 respectively. Calculate the rate of return. Solution: Total Income + Change in price of asset from purchase price Purchase price of the asset _ T,+(P Holding Period Return = P, 2 . por stock A= M4649). _y9y, 40 3 it For stock B = aera = 11.6% Expected Return The investment environment is volatile and uncertain; hence it is not an ap” propriate decision to rely on the single return forecast based on historical dat*CHB INVESTMENT PLANNING AND MANAGEMENT a. qherefore, calculating an average ret urn base, istori may not help predict future returns. An ae ee aie urns and can assign a Probability vai Meqribution of returns can be create i robability of earning the return) with the Possible and the summation of this product can fetch the expected return from security. ‘te expected return can be computed as: returns may have different possible lue to all Possible returns. The probability d by multiplying the probability assigned Expected Return = x pir, where, pe Probability of / th return = Possible return outcome n= Number of years ilustration: Calculate the expected return of the security. State Probability Return "Prosperous 0.30 20% stagnant 0.40 16% | Recessed 0.30 | -10% solution: State Probability (p) | Returns (%) (r,) xr, Prosperous 0.30 20 6 Stagnant 0.40 16 64 Recessed 0.30 -10 3 | L 9.4 Expected Return = DN pyr; Expected Return = 0.30 x 20 + 0.40 x 16 + 0.30 x -10 =6+64-3 = 9.4% Real Rate of Return The reat rate of return is the return earned after adjusting for inflation. Inflation Teduces the income earned in the hands of the investor. Hence, the prevailing ‘ate of inflation must be taken into account while making an investment decision. So, the real rate of return adjusts for inflation while the nominal rate of return Meludes the component of inflation. It can be stated asv UNIT 3 : INVESTMENT PLANNING AND MANAGEMEN 8.12 ; (1+ Nominalrateotretur™ \_1 Real rate of return = [~——7- Inflation rate 9 » rate of inflation Mlustration: The rate of return on investment is 12 band le ee erer renin is 5%. Taking both of these into consideration, compute the Solution: 1 + Nominalrateof return | _ Real rate of return = ("74 Inflation rate ) 0 Real rate of return = (140 UG = 1.0667 - 1 = 0.0667 = 6.67 % DECISIONS sidered while making investment t is subject to tax. However, the IMPACT OF TAXES ON INVESTMENT Taxes are one of the important factors to be con decisions. Income earned from the investment! 2 tax rate to be charged differ based on the kind of investment. For instance, PPF, NPS, and tax-free bonds are a few investment options exempted from tax. While the dividend earned on equity shares or interest received from investments is usually taxable in the hands of investors. The tax rate is also levied based on the time period of investment. The aforementioned statement can be explained with an example. The tax on short-term capital gain on the sale of equity shares on a recognised stock exchange stands at 15% and long-term capital gain on the sale of shares usually attracts 20% plus a surcharge if applicable. Therefore, an investor must incorporate the tax implication while comparing the varied alternatives available for investment. The post-tax rate on investment can be computed as: Post-tax rate = Pre-tax rate (1- Tax rate) Illustration: If the interest earned on bonds is 15% and the investor is in the 30% tax bracket, then compute the post-tax rate. Solution: Post-tax rate = Pre-tax rate (1- Tax rate) Post-tax rate = 0.15 (1- 0.30) = 10.5% There could be a situati : exempted from ee wherein the interest earned on the investment is @ case, we can compute taxable equivalent returnsGH.8 INVESTMENT PLANNING AND, MANAGEMENT 8.13 a comparison between tax exempted return 0; ro ™ mn investment. It can be calcul; mn ret n investment and taxable lated as follows: Tax free rate ivalent return = —&% free rai Ce (1 - Tax rate) tion: If the tax-free rate is 8% and the i Investor comes in the tax bracket at in this case, compute the taxable equivalent retura af olution: Tax free rate qaxable equivalent return = Gea = 0.08 = = 0.1142 = 11.42% taxable equivalent return 1-030 cONCEPT OF RISK i ises because ‘iabili the expected return. Risk arises fined as the variability in % eS ie a is fixed nor can it be predicted in apa Heel aie) ie | return does not equate with the expe . eer aa isk. However, the degree of risk ee investments carry risk. However, d ted that all inves ts carry | setter riz oa with greater variability in expected ous ae ie investment with less variability of cr is i a ae expected return of asecuriy is considered les eae rolatility, infla- ee ie due to various factors, for example, nae bs ty, ey ee and the fundamental position of the tion, capit , Risk vs. Uncertainty Often Risk and Uncertainty are used interchangeably. However, there exists a r, i rchangeably. / ‘ainty are used i di erence between the two terms. In the case of risk, we can assign & proba bility to the expected outcome of an event based on certain facts and figures, lowever, in the f uncertainty, we cannot assign the probability 7 case of u bability to the expected outcome of the event. Types of Risk Risk. ic and Unsystematic - be bifurcated into Systematic Risk an total risk can be bil ee isk, is the me ee ne diversifiable risk or ates : ee onomy, ce a res pea fee ge because it affects i inherent risk that is present ugh portfolio diversifical oy ante Curities in the marke———— 8.14 UNIT 3 : INVESTMENT PLANNING AND MANAGEMENT es, natural factors such as ec« ic conditi overnment polici ‘onomic conditions, changes in 8 policie® cannot disasters, and market-wide events. It is an inherent part of investing @ nel a risk by be eliminated. However, investors can take steps to manage systematic phic diversifying their portfolio across a range of asset classes, sectors, and e to hedge regions, and by using financial instruments such as futures and option against certain types of systematic risk. (B) Unsystematic Risk Non-systematic risk, also known as specific risk or diversifiable risk, is ie risk that affects a particular security or company. It is the risk that is specific to a particular investment and is not present in the broader market. Non-systematic risk can be diversified away through portfolio diversification because it only affects a specific security or a small group of securities. For example, the shares of a particular company plummetin; a entrants as competitors in the industry is a type of non-systematic risk as it only affects the shareholders of that particular company. On the other hand, the risk of a decline in the value of the whole stock market is a type of systematic risk because it affects all securities in the market. Investors can manage non-systematic risk by diversifying their portfolios across a range of securities and asset classes. By holding a diverse portfolio, investors can reduce the impact of specific risks on their overall portfolio. g because of new Sources of Risk Many sources of risk conduce to a variation in the return from an investment. Some common sources of risk are as follows: ¢ Market Risk: This is the risk that the value of an investment fluctuates due to changes in the market. Market risk can arise from the investors’ behaviour in the security market which can cause fluctuation in the share price. Usually, it is seen that investors follow the herd mentality, i.e., fol- low the same direction as the market or other investors. The change in the price of the investment could be due to political, social, or economic conditions. Market risk is generally higher for investments that are more closely tied to the overall performance of the market, such as stocks, and lower for investments that are less sensitive to market movements, such as bonds and cash. So, the risk of a decline in the price of security due to change in the market is termed as Market risk. Since market risk affects all investments to some degree and cannot be diversified away, therefore it is categorised as one of the main elements of systematic risk. Interest Rate Risk: Interest rate risk arises due to a change in the market interest rate that affects the value of an investment. This risk is Partic- ularly relevant for investments that are sensitive to changes In interestcH. 8 : INVESTMENT PLANNING AND MANAGEMENT 8.15 rates, such as bonds and debentures which offers a fixed periodic return to investors. An increase in market interest rates causes bond prices to fall and vice versa. When interest rates rise, the value of existing bonds tends to fall, because new bonds being issued will have higher interest rates, making them more attractive to investors. This means that if an investor owns a bond with a fixed interest rate and the market interest rate increases, the bond will become less valuable. On the other hand, when interest rates fall, the value of existing bonds tends to rise, because new bonds being issued will have lower interest rates, making them less attractive to investors. This means that if an investor owns a bond with a fixed interest rate and the market interest rate decreases, the bond will become more valuable. Interest rate risk is generally higher for long-term bonds, because they are exposed to interest rate changes for a longer period of time, and lower for short-term bonds, which are less sensitive to changes in interest rates. Purchasing Power or Inflation Risk: Inflation risk, also known as pur- chasing power risk, is the risk that the purchasing power ofan investment's returns will be eroded by inflation. Inflation is the general increase in prices for goods and services over time, and it can reduce the value of an investment’s returns if the investment does not generate returns that keep pace with inflation. Inflation risk is generally higher for investments with fixed returns, such as bonds and fixed-income securities, because the value of these investments does not increase with inflation. Investors can manage inflation risk by investing in assets that have the potential to generate returns that keep pace with or exceed inflation, such as stocks, real estate, and commodities. These types of investments tend to be more volatile and carry additional risks, however, so it is important for inves- tors to carefully consider their risk tolerance and investment objectives before investing in them. Business Risk: Business risk is present in all businesses. The! a possibility that a company will not be able to generate sufficient reve- nues or profits to meet its financial obligations and achieve its business objectives, which can lead to a decline in the value of the company’s se- curities. It can be influenced by numerous internal and external factors. For instance, the company’s management, operations, and competitive position are part of internal factors and economic conditions, competi- tion, and change in government policy are part of external factors that contribute to business risk. Financial Risk: Financial risk refers to the possibility that the firm won't be able to fulfil its financial commitments of paying debt amount due to financial difficulties. The numerous reason that contributes to financial re is always—— 8.16 UNIT 3 : INVESTMENT PLANNING AND MANAGEMENT risk is a drop in the business's sales or earnings, a rise in its costs, Of difficulty in obtaining the required capital. Companies with high levels of debt and low levels of liquidity (cash and assets that can be converted h easily) are often at more risk financially. Investors can manage m a risk by investing in companies with strong financial positions ty diversifying their investments across a range of industries and companies. MEASUREMENT OF TOTAL RISK Risk can be defined as the variability in expected returns. The total risk of an investment can be computed with the help of statistical measures such as Range, Standard deviation, and Variance. Range: Range refers to the highest and the lowest possible return from a par- ticular investment during a given period of time. The wider the range more will be the variability than the narrow range. Hence, the greater will be the risk. Variance or Standard Deviation: The variance or standard deviation is a mea- sure of risk that describe the dispersion of returns around the mean return for a particular security of portfolio. Variance is a measure of the average squared deviation of a set of returns from the mean return, while standard deviation is the square root of the variance. i. Application in case of return series ' y XH 4(R;-R) SD. = on Or Variance = Where, R= Return at i th observation R = Mean Return n = Number of observations ii. Application in case of Probability outcome of return S.D, = Variance = LL piLR; aCH. 8: INVESTMENT PLANNING AND MANAGEMENT 8.17 Where, R, = Return at i'* observation R= Mean Return P, = Probability of return Illustration: Calculate the risk of the security, i State Probability Return | Prosperous 0.30 20% Stagnant 0.40 16% Recessed 0.30 710% Solution: State Probability(p) | Returns (%) (R) | p, x R, = = RR |pik- RY | Prosperous 0.30 20 6 10.6 33.7 Stagnant 0.40 16 64 66 174 Recessed 0.30 =10 oe hr R=94 164.0 The risk can be computed as a measure of standard deviation. Therefore, Gots S.D. = EP pi(Rj-R) SD. = Vi64 S.D. = 12.8 Coefficient of Variation: The coefficient of variation (CV) is a statistical measure of dispersion. Standard deviation does not allow you to compare the level of dispersion. It does not consider the dispersion of expected return concerning expected values. Therefore, the standard deviation is not useful when we want to compare the risk of two investments. The coefficient of variation can be a more useful measure of risk than the standard deviation when we need to compare two or more investments. The CV is defined as the standard deviation of the expected returns divided by the mean of the expected return and is expressed as a percentage. The higher the CY, the riskier the investment. Ve on— 8.18 UNIT 3 : INVESTMENT PLANNING AND MANAGEMENT two investments he expected return and standard deviation for Illustratio1 are as follows = —_ x > 10% Expected Return, : | Standard Deviation, 6 7 _ Which security is better for an investor? ; if nt returns Solution: The two sets of options of investment X and Y have ae aaa ie. 10% and 20% respectively. Therefore, just screening with help owe need deviation won't give the true picture of which security is better- Hence, to use a measure of coefficient of variation. a CV= 7 R As per this formula, the CV of the two securities is: , ~7. CV of security X = To > 0.7 CV of security y = 12 = 05 20 Since security Y has a lower value of the coefficient of variation it is a less risky investment than investment X. Further, it is worth noting here the standard deviation of security Y is more than X but is less risky with the incorporation of the measure of coefficient of variation. RISK - RETURN TRADE-OFF There are numerous investments in the investment world and these varied investments have different degrees of risk and the required rate of return. The fundamental notion behind the risk-return trade-off concept is higher the ex- pected return from an investment, the higher will be the risk associated with that investment and the lower the expected return, the lower the tisk associ- ated with that investment. For instance, investments in low-risk assets such as saving accounts and government bonds carry low expected returns and the risk associated with it is also low. On the other hand, investment j ens such as equity shares is likely to have a higher return but t with it is also higher. This trade-off is a fundamental concept most important considerations for investors when making de, portfolios. in high-risk assets he risk associated t and is one of the Cisions about their So, the risk and return move in tandem. Generally, when ani a higher return from an investment, they must assume high. V°Stor expects relationship between risk and return can be representeq as: er risk. The basicCH. 8 : INVESTMENT PLANNING AND MANAGEMENT | [Tow Risk Tow Potential Return | = isk High Y Potential Return 8.19 Return Risk-Return Trade-Off The above figure can be interpreted as a risk-return line that shows the higher the risk, the higher the expected return. There is no one-size-fits-all approach to the risk-return trade-off, and different investors will have different risk tol- erances and investment goals. An investor shall take an investment decision considering the risk appetite as the investment does offer a higher return but the risk associated with such investment is also high. So, an investor must try to achieve a risk-return trade-off so that they can earn an optimal level of return with an acceptable degree of risk. PORTFOLIO MANAGEMENT Investors make investments in varied financial assets following their invest- ment goals. An investment in different financial assets is called a portfolio. So, the portfolio is a group of securities that are combined to minimise risk and maximise return. Portfolio management refers to the process of managing a group of securities in order to meet specific investment goals. The process of portfolio management involves identifying the investment objective of an individual on that basis an- alysing and selecting the securities for a portfolio, and regularly reviewing and evaluating the portfolio to ensure that it is aligned with the investment goals. The goal of portfolio management is to maximise return and minimise risk. The two common approaches to portfolio management are Active portfolio management and Passive portfolio management. Active portfolio eae is associated with buying and selling securities in an effort to outperform ul . market, while passive management entails following the market index ani making a few adjustments to the portfolio. ies involved in the Portfolio Management ' in- Selection of securities in which the funds are to be invested per the vestment objective. Creating a portfolio comprising the securities chosen for investment.8.20 UNIT 3 : INVESTMENT PLANNING AND MANAGEMENT tment strategy i.e., determining a" ap- ntails a proportion of investment bonds, and cash. @ Making decisions regarding inves propriate asset allocation strategy that ¢ in different asset classes such as stocks, : wea ‘These activities aim at building an optimal portfolio of investment which 8 it investor. a return commensurate with the risk appetite of the in Portfolio Return Portfolio Return is expressed as a weighted average of ee Sara portfolio. It is the aggregate of the product of the expectet ret ee security with its corresponding weight in the portfolio. The weig! to security based on funds invested in that security. Mathematically it can be represented as: E (R,) = LW,R; Where, W. = Weight of the security in the portfolio R = Return on security Illustration: The details of two securities X and Y are given below: | x ] Y L — Expected Return 12% | 18% Find the total return of the portfolio formed by 70% of security X and 30 % of security Y. Solution: Expected Return of Portfolio, E (R,) = LW; Expected Return = 12 x 0.70 + 18 x 0.30 = 13.80% Portfolio Risk We know that with high risk comes high return. When investors invest in more than on asset, he/she is not only taking but mitigating risk as well. The over- all Tisk of all the assets in the Portfolio of an investor is known as portfolio risk. It is a chance that the investor's portfolio will not be able to provide the ae, and meet the objectives for which the investment was done. pon we efore, here also the portfolio risk is calculated using standard rae Variance. The key components in measuring portfolio risk are risk of an individual asset, the weightage of each asset and the correlation between the assets included in the portfolio. In order to reduce the overall risk OF the portfolio itis advised that the correlation between the assets Should be minimum (negative) in order to avail the benefit of diversification.CH. 8 : INVESTMENT PLANNING AND MANAGEMENT 8.21 Portfolio Diversification Portfolio diversification is a technique of allocating funds to different types of assets in order to minimise the risk involved in the portfolio of investment. The primary focus is to select those assets, financial instruments, etc, in a portfolio that can reduce the total risk. The technique of portf luce ‘lio diversification reduces unsystematic risk and promotes return for a given lev: n el of risk in portfolio man- agement. The traditional phrase used is “do not put all your eggs in one basket”. From a portfolio management context, it means do a s not put all your investible funds in one company/industry but rather spread in two or more companies. The fundamental idea behind portfolio diversification is that the gain in one investment outweighs the loss in another investm I N t ent. Therefore, an investor should invest his investible fund in varied securities or companies or industries as possible in order to acquire the benefit of diversification, INVESTMENT ALTERNATIVES AND FINANCE PRODUCTS (A) Stock Stock investment is an equity investment. An investment in equity shares rep- resents ownership in that company. It gives the privilege to shareholders to enjoy the right in profits and assets of the company. The intention of an investor while investing in stock is to receive dividends regularly as well as capital gains. Investors make a capital gain by selling shares at higher stock prices than the price they purchased at. The stock investment is a market-based investment meaning thereby the return from the investment depends upon market demand and supply. Therefore, it is categorised as a risky investment. The long-term investment perspective in equities helps to increase an individual's wealth rather than holding the stock for a short time since the share value fluctuates in the short term. Delving deeper into researching stocks, the major types of stocks are as follows: @ Large Cap Stocks: Shares of companies that have a large market capital- isation and are under the top 100 companies as per SEBI classification. These companies have a wide market recognition generally as leaders in that industry with sound financial performance. Mid Cap Stocks: Shares of companies with a ranking 101 to 250 based on market capit: tion as per SEBI classification. These companies have a well-established name and strong presence in their respective industry therefore less volatile and risky with a prospect of growth. Small Cap Stocks: Shares of companies that have a ranking after 251 companies based on market capitalisation as per SEBI classification. These companies experience greater volatility than large or mid-cap stock companies that could give quick gains and even losses.8.22 UNIT 3 ; INVESTMENT PLANNING AND. MANAGEMENT that surpasses @ Growth Stocks: Shares of companies with a growth rate the market average growth rate and profitability: have a steal ce extremel tly unaffe' dy operation and ly strong growth. ted by eco- re adverse. @ Income Stocks: Shares of companies that h pay continuous dividends but do not guarant @ Defensive Stock: Shares of companies that are mos' : i itions al nomic situations and are favoured when market conditio nies that are heavily influenced by @ Cyclical Stocks: Shares of compa : : ficant price variations In response to economic conditions and have signi! market developments. 7 @ ESG Stocks: Shares of companies that prioritise sustainability and oa ronmental concerns. These companies intend to make a profit but take into due consideration the consequences of the same on the environment to least. (B) Debentures and Bonds Debentures or bonds are long-term investment vehicles wherein the holder of such security is offered a regular stream of cash flow depending upon the rate of interest stipulated in the bond or debenture. It is a financial instrument that contains information regarding interest, due dates, and other terms. It comprises two sets of income: one is an interest payment over the life of the investment and the second is the principal amount repayment at the time of maturity. More- over, an investor also gets the opportunity to earn potential profit by selling the bonds in the secondary market. Bonds or debentures are comparatively less ris because a fixed interest payment is made to the holder. Often, the issuer of the bond is a primary factor in deciding the degree of risk involved in bonds or debentures. The bonds are issued by either government or corporations. The government requires funds to finance their projects, for instance, roads, highway, flyover, dams, schools, etc, and hence raise funds via bonds. While companies raise funds via bonds or debenture for expansion and diversification of their en the a et by the government have less or no risk involved. Reon aces enna issued by the company has certain risk * , risk, and liquidity risk. isky investments than equity shares The various alternatives available to an investor under debentures and bonds are: ° Government Securities: Debt securities issued by the central government a through ee classified under Central government securities- a ar on behalf of the government of India, gover” or Long-term bonds —— under two categories: Short-term bonds with a maturity of 91 ae bonds are in the form of Treasury Bills are in the form of Go Ys, 182 days, or 364 days and long-term bonds vernment Bonds or State Government Bonds withCH. 8 : INVESTMENT PLANNING AND MANAGEMENT 8.23 @ maturity range of 5 to 40 years. The central government is authorised to issue both T-bills and bonds while the state government issues bonds Only which are referred to as State Development Bonds. An example of # Government bond is 7.54% Government securities 2036, a bond which Carries an interest rate of 7.54% payable semi-annually, and matures in 2036. @ State Development Loans: State devel by states to manage the securities. These are issue fer a slightly higher rate t maturity. ‘opment loans, or SDLs, are issued state budget. RBI manages the issue of these d with a maturity of up to 10 years. SDLs of- ‘han the central government bond of the same ¢ Public Sector Undertaking Bonds: Bonds issued by public sector com- panies under the purview of the central government of India are called public sector undertakings bonds. The Indian Government manages the issue with 50% ownership of PSU bonds. It is considered an attractive investment vehicle because of the following features: (a) offers a higher rate of interest in comparison to other debt instruments, (b) safe invest- ment option with minimal risk of default as backed by the government, (c) Generally, these bonds are taxable as per individual income tax slab, (d) yield offered in PSU bonds are stable and hence a good option for long term investment. @ Sovereign Gold Bonds: Sovereign Gold Bonds are issued by RBI on behalf of the Government of India. It was initiated in 2015 under the Gold Monetization scheme. It allows those seeking gold as an investment vehicle to hold gold in a digital form rather than in a physical form. The investment can be made with at least 1gm and the maximum limit is 4 kgs for individuals and HUF and 20 kgs for trusts and similar entities. The interest is serviced semi-annually and the interest rate is declared by the RBI at the time of subscription. @ Inflation-Indexed Bonds: The 2013 budget led to the inception of in- flation-indexed bonds. The RBI in consultation with the Government of India launched Inflation Indexed National Savings Securities - Cumulative Bond also known as IINSS-C. It allows Individuals, HUFs, and charitable institutions to invest in these bonds with a minimum amount of 25,000 and a maximum amount of %10 lakhs per annum for individual investors and @ 25 lakhs per annum for institutions such as HUFs, Charitable Trusts, Education Endowments, and other non-profit institutions. The interest rate on these bonds comprises two components - one is a fixed rate of 1.5% and the other is the inflation rate according to the final composite consumer price index that is compounded half-yearly. The beneficial fea- ture provided under this is if the overall economy experience deflation,8.24 UNIT 3 : INVESTMENT PLANNING AND MANAGEMENT ovided under ears wherein f investment in that case, a guaranteed 1.5% p.a. interest rate will be PY this investment vehicle. The bonds have a maturity of 10 Y early maturity is permitted to senior citizens after 1 year © and after 3 years to others. ebentures to raise holder of the de- pany must pay t a stipulated @ Private Company Debentures: The company issues 4 funds for the long term from the general public. The benture is called the debenture holder and the issuer com interest and the redemption value to the debenture holder a time. (C) Mutual Funds A mutual fund is an investment avenue that pools the money of Poe for collective investment in a diverse portfolio of assets such as equity and debt. A mutual fund invests in a varied range of assets such as equity, bonds, debentures, and other assets issued by governments or corporations. Small investors can start investing in diversified portfolios with a minimum investment of %500 in a mutual fund. They can access the stock market with shares, debentures, and bonds of the varied companies in their portfolio via the lens of mutual funds, Further, the mutual funds are managed by professional experts who have better expertise and knowledge to screen the stocks and bonds from the universe of investments than the beginner initiating the buying and selling of stocks and bonds. Investors are offered units in mutual funds and are called unitholders. Each unit represents the proportionate ownership of the unitholder in the mutual funds’ underlying portfolio. The mutual fund offers the return in the form of dividends, capital appreciation, and bonus shares similar to as offered in shares. (D) Post Office Monthly Income Scheme The Post Office monthly income scheme validated by the Ministry of Finance offers fixed monthly income to investors and it is a government-backed securi- ty. The investment can be started with a minimum balance of 71,000 and the maximum balance that is allowed is 74.5 lakhs in the case of a single account and %9 lakhs in the case of a joint account in the multiple of 71,000. The time horizon of the investment is 5 years; however, the amount can be withdrawn after the completion of 1 year. (E) Fixed Deposits Fixed deposits are considered the saving instrument option offered by banks and financial institutions. The general public locks their funds for a certain time period which may range from 7 days to 10 years as per their own choice. A guaranteed return offered in a form of a fixed rate of interest on a fixed deposit makes it a lucrative investment. The rate of interest varies according to the time frame for which funds are locked in the fixed deposit, Generally, the rate of interest ranges from 3%-7%. Senior citizens are offered 0.5% extra return than other individuals. In case a person investing the money in a fixed depositCH. 8 : INVESTMENT PLANNING AND MANAGEMENT 8.25 Tequires funds or is in dire need of funds ‘ be nks give the fixed deposit withdrawal however with a facility of premature a penalty, Further, the bank provides cumulative and non- Since the coefficient of variation is lesser for security X ie., it is less risky, ere better than security Y. , security X is Los d Y are given below a i curities X ant Problem 8: The details of two set - x Y | 21% Expected Return 17% Find the total return of the portfolio formed by 65% of security X and 35 % of security Y. Solution: Expectéd Return of Portfolio, E (R,) = ZW;R; Expected Return = 17 x 0.65 + 21 x 0.35 = 18.4% REVIEW QUESTIONS . What is an investment? Briefly describe two types of investment. People around often discuss investment as speculation. Do you believe that these two terms can be used interchangeably? State your reason. Ne . What are the objectives of Investments? . Explain the process of Investment. . What is a return? Explain different types of returns. . Why an investor shall consider the real rate of return over the nominal rate of return for making an investment decision? . Explain risk. What are the two different types of risk? 8. Enumerate the different sources of investment that conduces toa variation in the return from an investment, 9. Explain the risk-return trade-off, 10. Investment planning is a crucial part of financial planning. What are the two prerequisites to be considered in every investment planning before Ou ie Nci 8 ; INVESTMENT PLANNING AND MANAGEMENT 8.33 framing the scope to achieve other objectives? Also, explain the benefits of Investment Planning. 11. Explain in detail the different investment alternatives available to inves- tors. 12. What is Portfolio management and what are the activities involved in portfolio management? 13, Explain portfolio return and portfolio risk. 14. What is portfolio diversification? PRACTICAL EXERCISES 1. Dr Verma is 42 years old man, who runs a small clinic and helped many during covid times with his diligent and dedicated service during that time. He realised that life is full of uncertainty concerning earnings and one’s own life. He checked his bank saving A/c and had a sigh of relief that he has some savings to meet an uncertain situation in life as he is the only bread earner in his family of four. But that day he realised mere saving won't fetch all the desires he has, for instance, children’s education, happy life after retirement, etc. Moreover, he wanted to seek help with tax savings as well. Dr Verma fears that investments are for experts and it is difficult to have stable returns from investment. You, on the other hand, want to make people financially literate to have a wonderful life. You took this responsibility to change Mr Verma's perception of investment and introduced him to myriads of investment avenues to meet his investment objective. He informs you about the investible surplus of %45,00,000 to chart out the plan with different investment alternatives available. 2. The annual closing price of Infosys and Tata Power is extracted from the NSE website (the value is rounded off to the nearest whole number for simple calculation). Calculate the return and risk of Infosys and Tata Power using Excel. Year Infosys | Tata Power 2017 1042 94 2018 659 7 | 2019 708 6 | 2020 1256 6 2021 1415 125 2022 1508 208 Hint: To calculate the return and risk of Infosys and Tata Power, we first need to calculate the annual return. The annual return can be calculated as the percentage difference between the previous year’s return.8.34 (3. _——" °° UNIT 3 ; INVESTMENT PLANNING AND. MANAGEMENT ig also added) can be The above information (herein Column D and F represented in the excel spreadsheet as: = [ L. : |_ —_*—_| —_4—4 | c c Tata Power | I 1 YEAR Infosys Powe Sie | annual Re- | | (chosing | closing | ARRAN | "urn (96) |__ price) price) | tun urn) | [2 2017. | ‘1,042 04 | el aT 3) 2018 | 659 7 38 otal | 1 | 708 60 SS _ aa a 5 76 7740___| 26.67 _ 5 | 2020 1,256 76_| 1288 364 6 2021 1,415 125 12.66 | 64.47 _ 3022 cop | 208 | 66.40 7 2022 1508 | 208 __ _|__66.40__ nd s and A, Band C represent Column. To find ), we will apply the formula Here, 1,2 and 3 represent rows ear’s value hence it out the annual return (for instance of Infosys), W = (D3 -D2)/D2. For 2017 we don’t have the previous y' cannot be ascertained. For next year, the annual return can be calculated as = (D4 -D3)/D3 and so on. A similar process will be applied to Tata Power. Once we get the annual return. The Average return can be ascertained with the help of a ‘Function: Apply the function of ‘AVERAGE. So, write in the cell beneath this table ‘= AVERAGE’ and then to D7. Hence, to acquire the mean return of Infosys, type = AVERAGE (D3:D7) and press enter. You will be able to fetch a return. Apply, a similar select the range D3 process for Tata Power. Next, to calculate risk which is a measure of standard deviation, apply the function of ‘STDEV: So, to acquire the risk of Infosys, type =STDEV (D3:D7). You will be able to fetch risk. Apply, a similar process for Tata Power. The return and risk in this exercise are: Infosys: 13.46% and 40.91% respectively Tata Power: 23.48% and 42.83% respectively. Further, try this exercise with your choice of two companies taking monthly returns than the annual return. You can download the historical price of that company from the NSE website. Go to the NSE website and search for the company name. Then click on historical data and select the date range as per your choice. Finally, download the CSV file. We generally use closing price for return and risk calculation. Frame a dummy portfolio with a fund of Z10,00,000 in 4 securities of your choice. Assign the return and risk to that asset based on its performance in the last one-month time period. Then, calculate the portfolio return and risk.The learning from this chapter will enable students _ > get acquainted with mutual funds and their types | | » learn how to measure the cost and return of mutual funds | > knowledge of the latest developments in the mutual fund industry ie. | SIPs and SWPs | > get accustomed to things to consider while investing in mutual funds INTRODUCTION Investors invest their investible funds in the security market with the objective to maximise return for a given level of risk. There are varied securities available for individual investors to invest their money, equity shares offer significant re- turns however they are subject to high risk as a fixed amount of income is not a feature of equity shares. Therefore, to invest money in securities, one must thoroughly understand the operation, functioning and position of a company. The tools and techniques required to analyse the companies are not within the ambit of common individual investors and sometimes the amount involved as an investment in these securities are so small that it is not viable. So, in such a scenario individual investors prefer to go for indirect investment rather than direct investment. They tend to route their money in the equity market via experts such as security analysts or portfolio managers They pool the money for collective investment in the diverse portfolio of assets such as equity and debt after thoroughly studying the market and the companies. The investment companies engaged in this process are called Mutual Funds. 919.2 UNIT 3 : INVESTMENT PLANNING AND MANAGEMENT MUTUAL FUNDS _ een investors tha sa link bet ° is a financial intermediary that serves as ali ; for collective indi stors It pools money from individual inv eturn ‘A mutual investment in a portfolio of securities to generate a significa government fund invests in a varied range of securities Suc has equities, bonds, securities, and money market instruments. tual funds schemes is manag' professional fund managers in stocks and bonds per eel investment objective. Investors are offered units in mut i" unitholders each unit represents the proportionate owners! ip pean the mutual funds’ underlying portfolio. The income/gains gener fer dedu ual fund scheme are distributed proportionately among eee ea ting applicable expenses by calculating Net asset Value OF NAV. For P g, these services, mutual funds charge a small fee. p in the form ofa Trust under Amutual fund and the security market. ed and invested by ‘utual fund scheme's funds and are Called of the unitholder in The money collected in mu the Indian Trust Act, 1882, Funds) Regulations,1996. As the mutual funds are managed by professional experts, they have better expertise and knowledge to screen the stocks and bonds from the universe of investments than the beginner initiating the buying and selling of stocks and bonds. The professional experts and investment consultants undertake investment analysis and then choose the portfolio of assets. Each Mutual fund is launched with an investment objective set by the Professional fund manager before introducing the fund in the market. Based on the scheme’s investment objective, the Portfolio fund manager selects the financial securities for the fund and sets the risk- return expectation. Examples of Mutual Funds in India are ICICI Prudential Mutual Fund, SBI Mutual fund, Birla Sun Life Mutual Fund, etc. Mutual Funds are set u in accordance with SEB! (Mutual COST AND EXPENSES OF MUTUAL FUNDS _ There are broadly two types of costs which are charged by the portfolio manager and borne by the investor dealing in mutual funds. These are: (i) Entry Load and Exit Load (ii) Expense Ratio Entry Load and Exit Load om in- T : adleses can be defined as the difference between the price charged fr ae ei the time of buying or selling the mutual fund and the actual NAV of When expenses are charged from the investo! ie, at the time of purchase of units, it is terme + when he buys the mutual fund, d as Entry load or front-end load.Ss For instance, the actual NAV is ¥ 20 per unit and the entry load on a scheme is 2%. So, the price charged from investors will be % 20.40 [20 + 2% of 20]. It can be written as: CH. 9 : MUTUAL FUNDS 93 Entry Load = Purchase Price - NAV Similarly, when expenses are charged from the investor at the time, he sells the mutual fund it is known as Exit load or back-end load. For instance, the NAV of a mutual fund is Z 20 So, the price realised by the investor will be Z stated as: Per unit and the exit load is 2%. 19.60 [20 - 2% of 20). It can be Exit Load = NAV - Repurchase Price Expense Ratio The Mutual Funds are permitted to charge operating expenses which includes Tegistrar and transfer agent fee, audit fee, custodian fee, marketing and distri- bution fee, etc from mutual fund investors When these expenses are measured as a percentage of the fund’s daily net assets, it is called the Expense ratio. Phrased another way in simple terms, we may say that per unit cost incurred in running and managing the mutual fund. The NAV is disclosed on a daily basis after deducting these expenses. The expense ratio is revealed at an interval of six months. NET ASSET VALUE The Net Asset Value is calculated to find the fund valuation and pricing. The Net asset value is defined as the net assets of the fund minus its liabilities divided by the number of outstanding shares. AV Asset - Liabilities Nav = Total number of outstanding shares Fund's NAV is published daily on respective mutual funds’ websites and AMFI’s website. The value is influenced by four factors which are securities purchased and sold, the value of securities held, other assets and liabilities, and units sold. Mustration: Find out the NAV per unit from the following information: Scheme Size % 40,00,000 | Face value of shares a 210 Number of Outstanding Shares soo] Fund's Investment (Market Value) % 38,00,000 Liabilities - © 2,00,000 |ENT 94 UNIT 3: INVESTMENT PLANNING AND MANAGEM Solution: Asset - Liabilities NAV = ~Total number of outstanding shares 38,00,000 - 2,00,000 4,00,000 NAV per unit = 79 ' . Vv Misconceptions cae NA\ TARO ee The majority of the time investors try to aligi hoices while selecting the the mutual fund which results in them making poor cl ow are some of the appropriate funds and losing their hard-earned money. Belo misbeliefs concerning NAV which should be avoided: @ Low NAV Mutual Funds are Cheaper: If an investor invests an equal amount of money in two funds having the same portfolio but different NAV, this does not mean that the one with a lower NAV is cheaper just because it gave more units. Let's understand it with an example. Aman invests 710,000 in fund 1 and fund 2 respectively. Fund 1 offers a NAV of € 100 and fund 2 offers a NAV of %1,000 per unit. The number of units under fund 1 is 100 and under fund 2 is 10. Now let’s say, both the funds appreciated by 30% ie, the NAV of fund 1 and fund 2 are %130 (100 + 30% of 100) and 71,300 (1,000 + 30% of 1,000) Tespectively. Thus, the total investment value after appreciation is €13,000 (130 * 100) for fund 1 and %13,000 (1,300 10) for fund 2. Thus, we can see that despite the investor receiving a larger number of funds under fund 1, the returns were exactly the same. Therefore, it is not wise to correspond low NAV to cheaper investment. the future, Book Profits as NAV Rises: Nav. Both have different me units when the NAV is risi with great future Prospects, a declining NAV you might Do not confuse share prices with the fund anings and objectives. If you se| . Also, if you continue to hold a fund with get stuck with a stagnant investm, we ent. Thus,CH. 9: MUTUAL FUNDS 95 instead of looking at NAV to make an exit decision, one must look at the performance of the fund portfolio. DIFFERENT TYPES OF MUTUAL FUNDS SCHEMES Different types of mutual fund schemes address the investors’ needs, risk appe- tite, and return expectations. They can be categorised based on: (A) Based on Structure ‘The mutual fund can be classified as Open-Ended Funds and Close-Ended Funds. @ Open-Ended Funds: The units in open-ended mutual funds can be sold and repurchased continuously at NAV. There is no fixed maturity in open-ended funds. It can provide repurchases shortly after allotment and is not required to be listed on the stock market. Investors get the opportunity to enter or exit the scheme at their convenience during the fund’s life. Therefore, in the open-ended fund, the unit capital fluctuates as new entries and exits are allowed without any constraints. The defining attribute of the open-ended fund is liquidity. @ Close-Ended Funds: Close-ended funds have a pre-defined maturity pe- riod. Investors can invest in these schemes at the time of launch of this scheme and get out of this scheme at the time of maturity of the scheme. The close-ended funds are listed on the stock exchange as is the case of shares. However, these funds do not possess the liquidity feature as the trading volume in the fund is generally low. (B) Based on Asset Class @ Debt Funds: Debt funds are referred to as fixed-income funds comprising government securities and corporate bonds. These funds are considered to be less risky than equity funds and offer reasonable returns to investors It is a lucrative investment for an investor who desires a steady return and has a low-risk appetite. Equity Funds: Equity funds as opposed to debt funds invest money in equity shares. The key goal of the equity fund is capital appreciation. Equity funds have a significant level of risk and the return in these funds depends on stock market fluctuations. These funds are a suitable option for investors who invest with long-term objectives in mind such as buying a house. Examples of equity funds are index funds, sector funds, large-cap funds, mid-cap funds, and small-cap funds. @ Hybrid Funds: Hybrid funds are funds consisting of a combination of equity and debt. Hybrid funds can be further categorized into various subcategories depending on the asset allocation of how equity and debt are distributed.