Security Analysis and Portfolio Management

460 Pages·2015·2.58 MB·English

INVESTMENT
MANAGEMENT
Security Analysis and Portfolio Management
Preeti Singh
Professor,
Jagannath International Management School,
New Delhi.
NINETEENTH REVISED EDITION : 2015
MUMBAI (cid:122) NEW DELHI (cid:122) NAGPUR (cid:122) BENGALURU (cid:122) HYDERABAD (cid:122) CHENNAI (cid:122) PUNE (cid:122) LUCKNOW
(cid:122) AHMEDABAD (cid:122) ERNAKULAM (cid:122) BHUBANESWAR (cid:122) INDORE (cid:122) KOLKATA (cid:122) GUWAHATI
© Author
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First Edition : 1988 Tenth Revised Edition : 2002
Second Revised Edition : 1990 Eleventh Revised Edition : 2003
Third Revised Edition : 1992 Twelfth Revised Edition : 2004
Fourth Revised Edition : 1994 Thirteenth Revised Edition : 2005
Fifth Revised Edition : 1996 Fourteenth Revised Edition : 2006
Sixth Revised Edition : 1997 Fifteenth Revised Edition : 2007
Seventh Revised Edition : 1998 Sixteenth Revised Edition : 2008
Eighth Revised Edition : 1999 Seventeenth Revised Edition : 2009
Ninth Revised Edition : 2000 Eighteenth Revised Edition : 2013
Nineteenth Revised Edition : 2015
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PREFACE
Investment Management is a science of combining different kinds of investments available in an individual’s
portfolio. It requires both long term and short term planning. It comprises of high risk and low risk investments.
Normally an investor is averse to risk and therefore he has to plan his portfolio and constantly review it to get
an additional income in addition to his regular income. There are systematic and unsystematic kinds of risks
present in the investment market and they affect the investor in different ways. Unsystematic risk can be
reduced completely because it is unique and it affects a particular organization or industry. However, systematic
risk is broad spectrum and cannot be reduced but it can be somewhat diversified which may help in reducing
some risks but it cannot be completely elimated. The book explains the different kinds of risks that surround
the investors and the techniques through which they can be minimized.
This book provides some techniques through which different securities can be combined to get a high
return. It explains different theories of portfolio management and guides an investor to take correct decisions
in combining their securities. Investor should take their own decisions and through fundamental analysis. They
should not follow a herd or group.
This book analyzes the profile of the investor and his expectations to make investments. It discusses the
network of financial markets and institutions and the manner in which they function in India. It has explained
the online and the broker method of purchasing and selling securities and how the market regulator disciplines
and regulates the intermediaries and transactions in the financial markets.
The theories of Harry Markowitz and William Sharpe have been discussed for analyzing and diversifying
the portfolio of an individual. Fundamental Analysis, Technical Analysis and Efficient Market Theory, Capital
Asset Pricing Model and Arbitrage Theory are useful in investing funds.
This is the 19th edition of the book and it gives an insight to the investor of the investment climate in
India. It is useful for students of management, commerce, accounting and finance. It is comprehensive and
completely revised to suit the latest developments in the Indian financial system. Certain chapters have been
added, changed or deleted to make the book useful.
I would like to acknowledge the co-operation of my publishers M/s Himalaya Publishing House Pvt. Ltd.
and continuing support in publishing this book.
Brajendra Kumar has provided prompt and efficient secretarial assistance in preparing the manuscript of
this book.
I would like to thank my colleagues from various colleges for giving me a feedback of my book and for
making suggestions during the revision process.
Finally I would like to thank all my students for continuously supporting me and giving me suggestions
while revising the book.
Dr. PREETI SINGH
CONTENTS
1. INVESTMENT MANAGEMENT - AN INTRODUCTION 1–13
1.1 Introduction
1.2 What is Investment?
1.3 Financial and Economic Meaning of Investment
1.4 Investment and Speculation
1.5 Investment and Gambling
1.6 Investment and Arbitrage
1.7 Real and Financial Assets
1.8 Why is Investment Important?
1.9 Factors Favourable for Investment
1.10 Investment Media
1.11 Features of an Investment Program
1.12 The Investment Process
2. FINANCIAL INSTITUTIONS AND MARKETS IN INDIA 14–53
2.1 Background of the Financial System
2.2 Financial System: An Introduction
2.3 Legislative Measures
2.4 Structure of the Financial Markets
2.5 Important Stock Markets in India
2.6 Financial Institutions
– Commercial Banks
– Development Banks
2.7 A Critique of the Indian Financial System
3. INDIAN SECURITIES MARKET 54–91
3.1 Indian Securities Market
3.2 Participants in the Securities Market
3.3 Financial Instruments
3.4 Financial Engineering Instruments
3.5 Security Market Indices
3.6 Sources of Financial Information
3.7 The Relationship of the New Issue Market and Stock Exchange
3.8 Structure of the Indian Capital Market with Participants
3.9 Intermediaries/Participants in the New Issue Market
3.10 Issue of Capital in New Issue Market
3.11 Functions of the New Issue / Primary Market
3.12 Secondary / Stock Markets
3.13 Listing of Securities
3.14 Depository System or Paperless Trading
3.15 Broker System of Trading of Securities
3.16 Control of Indian Capital Market : SEBI
3.17 Developments in the Stock Market
– Insider Trading
– Circuit breakers
– Free Pricing of Issue/Stock Splits
– Screen Based Trading
– Regulation of Foreign Institutional Investors (FIIs)
– Regulation of Mutual Funds
– Options and Derivatives
– Regulation of Stock Brokers
– Surveillance on Price Manipulation
– Buyback of shares
– Stock lending.
4. SECURITIES EXCHANGE BOARD OF INDIA 92–99
4.1 Establishment of Securities and Exchange Board of India (SEBI)
4.2 Objectives of SEBI
4.3 Investor Protection
4.4 Listed Companies and Model Code of Conduct
4.5 Investor Grievances
4.6 Departments of SEBI
4.7 OMBUDSMAN 2003
4.8 National Stock Exchange and Arbitration Facilities
4.9 Investor Education
4.10 Prohibition of Insider Trading
4.11 MAPIN
4.12 Investors’ Protection Fund
5. RISK 100–126
5.1 Background of Risk and Return
5.2 Risk
5.3 Systematic Risk
5.4 Unsystematic Risk
5.5 Quantitative Analysis of Risk
5.6 Investor’s attitude towards Risk and Return
6. RETURNS 127–140
6.1 Measurement of Returns
6.2 Traditional Technique
6.3 Modern Technique
6.4 Holding Period Yield: Influence on Bonds and Stocks
6.5 Returns and Probability Distributions
6.6 Taxes and Investment
6.7 Inflation and Investment
6.8 Return: Statistical Techniques
7. THE INVESTMENT ALTERNATIVES 141–163
(Bonds, Preference Shares and Equity Shares)
7.1 Investor Classification
7.2 Corporate Bonds
7.3 Convertible Bonds
7.4 Preference Shares
7.5 Equity Shares
8. DERIVATIVES 164–182
8.1 Derivatives
8.2 Financial Derivatives
8.3 Options
8.4 Black Scholes Model
8.5 Forwards
8.6 Futures
8.7 Swaps
8.8 Derivatives Market in India
9. SECURITY VALUATION 183–228
9.1 Background
9.2 Approaches to Investment
9.3 Historical Developments of Investment Management
9.4 Basic Valuation Models – Fundamental Approach
9.5 Valuation of Bonds or Debentures
9.6 Valuation of Preference Shares
9.7 Valuation of Equity Shares
9.8 Valuation of Equity Shares – Dividend Concept
9.9 Valuation of Equity Shares – Earnings Concept
9.10 Capital Asset Pricing Model (CAPM Model): Share Valuation
10. ALTERNATIVE FORMS OF INVESTMENT 229–253
10.1 Introduction
10.2 Government Securities
10.3 Life Insurance
10.4 Private Insurance Companies
10.5 Unit Trust of India
10.6 Commercial Banks
10.7 Provident Fund
10.8 Post Office Schemes
10.9 Fixed Deposit Schemes in Companies
10.10 New Instruments
10.11 Financial Engineering Securities
10.12 ADRs, GDRs & IDRs
10.13 Non-Bank Finance Companies
10.14 Mutual Funds
10.15 Land and House Property
10.16 Gold
10.17 Silver
10.18 Coins and Stamps Collection
10.19 Diamonds
10.20 Antiques
11. DIVIDEND POLICIES AND THE INVESTOR 254–283
11.1 Types of Dividend
11.2 Stock Splits
11.3 Procedure for Payment of Dividends
11.4 Dividend Policy
11.5 Dividend Decisions
11.6 Factors Affecting Dividend Decisions of Firms
11.7 Limitation on Dividend Payments
11.8 Walter’s Model
11.9 Gordon’s Model
11.10 M.M. Hypothesis
12. INVESTOR AND INTEREST RATES 284–292
12.1 What is Interest?
12.2 Different Kinds of Interest Rates
12.3 Approaches to Interest Rates
— Static Form, Dynamic Form and Eclectic Approach
12.4 Yield Curve
12.5 Liquidity Premium Hypothesis
12.6 Market Segmentation Hypothesis
12.7 Unbiased Expectations Theory
12.8 Expected Interest Rates and Term Structure of Interest Rates
12.9 Eclectic Theory and Investors
12.10 Financial Intermediaries and Term Structure
12.11 Interest Rates in India
13. FUNDAMENTAL ANALYSIS 293–320
13.1 What is Fundamental Analysis?
13.2 Economic Analysis
13.3 Industry Analysis
13.4 Company Analysis
13.5 Ratios Relevant for Equity Shareholders
13.6 Economic Value Added (EVA)
13.7 Sources of Financial Information
14. TECHNICAL ANALYSIS 321–332
14.1 Introduction
14.2 Dow’s Technical School of Thought
14.3 Assumptions of the Theory
14.4 Market Movements
14.5 Charts
14.6 Construction of Charts
14.7 Analysis of Charts
14.8 Short Sales
14.9 Confidence Index
14.10 Breadth of the Market
14.11 Relative Strength
14.12 Trading Volume
14.13 Moving Average Analysis
15. EFFICIENT MARKET THEORY 333–343
15.1 Background
15.2 Concept of Efficient Market Theory
15.3 Efficient Market Hypothesis
15.4 Empirical Analysis
15.5 The Random Walk Model Comparison with other Theories
15.6 Random Walk – Conclusions
16. PORTFOLIO ANALYSIS 344–379
16.1 Traditional Versus Modern Portfolio Analysis
16.2 Modern Portfolio Theories
16.3 Investor Attitude towards Risk and Return
16.4 The Rationale of Diversification of Investments
16.5 Markowitz Theory
16.6 Capital Market Line (CML)
16.7 Limitations of Markowitz Model
16.8 Sharpe’s Single Index Model
16.9 Sharpe’s Optimal Portfolio
17. PORTFOLIO SELECTION AND INTERNATIONAL DIVERSIFICATION 380–401
17.1 Introduction
17.2 Importance of Beta
17.3 Capital Market Theory — Capital Asset Pricing Model
17.4 Security Market Line
17.5 Limitations of CAPM Model
17.6 Distinction between Capital Market Line and Security Market Line
17.7 Validity of CAPM Model
17.8 Arbitrage Pricing Theory
18. TECHNIQUES OF PORTFOLIO REVISION 402–411
18.1 Formula Plans
18.2 Rules for Formula Plans
18.3 Constant Rupee Value Plan
18.4 Constant Ratio Plan
18.5 Variable Ratio Plan
18.6 Modifications of Formula Plans
18.7 Rupee Cost Average
19. PERFORMANCE MEASUREMENTS OF MANAGED PORTFOLIOS 412–428
19.1 Introduction
19.2 Structure of Mutual Fund
19.3 Features of Mutual Funds
19.4 Classification of Mutual Funds
19.5 Net Asset Value
19.6 Costs in Mutual Fund Investments
19.7 Return from Mutual Fund
19.8 SEBI and Mutual Fund Regulations
19.9 Management Performance Evaluation
– Sharpe’s Performance Measure
– Treyner’s Performance Measure
– Jensen’s Model
19.10 Mutual Funds as Investments
GLOSSARY 429–436
APPENDICES 437–448
Table A1
Table A2
Table A3
Table A4
INDEX 449–451
Chapter
1
INVESTMENT MANAGEMENT —
AN INTRODUCTION
Chapter Plan
1.1 Introduction
1.2 What is Investment?
1.3 Financial and Economic Meaning of Investment
1.4 Investment and Speculation
1.5 Investment and Gambling
1.6 Investment and Arbitrage
1.7 Real and Financial Assets
1.8 Why is Investment Important?
1.9 Factors Favourable for Investment
1.10 Investment Media
1.11 Features of an Investment Program
1.12 The Investment Process
1.1 INTRODUCTION
This chapter is an introduction to the investment environment. It discusses the basic concepts of investment.
It distinguishes between financial and economic meaning of investment and investment and speculation. It
outlines the direct and indirect investments available to individuals.
It also discusses the major types of investment media available to individuals and institutions.
1