Wealth Management

Wealth Management

Saving &Investing…

Investing …. What is investing? An investment operation is one which, upon thorough analysis promises safety of principal and an adequate return. Operations not meeting these requirements are Speculative - Benjamin Graham – The Intelligent Investor Investing is the act of seeking value at least sufficient to justify the amount paid. Consciously paying more in the hope that it can soon be sold for a still higher price should be labeled as speculation - Warren Buffet – The Making of An American Capitalist

Investing …. What is investing? Investing is a method of purchasing assets to gain profit in the form of reasonably predictable income (dividend, interest or rentals) and / or appreciation over the long term - Burton G Malkiel – A Random Walk Down Wall Street Investing is a Act of faith, a willingness to postpone present consumption and save for the future. We entrust our capital to corporate stewards in the faith –at least with the hope that their efforts will generate high rates of return on our investments - John C. Bogle – Common Sense on Mutual Funds

Speculation…

Investing …. Speculation Investors “speculate" every time they commit money to something they don't understand. Say you overhear your best friend’s uncle talking about a company called Frontier Industries at a cocktail party. "This thing is surely going to go through the roof in the next few months," he says. If you call your broker the first thing the next morning to place an order for 100 shares, you've just speculated.

Investing …. Speculation Do you know what Frontier Industries does? Are you familiar with its competition? What were its earnings last year / last quarter? There are a lot of questions one should ask about a company before investing in a "hot" stock. There's nothing too hot about losing money in such speculative investments because the investor didn't take the time to understand what he was investing in.

Investing …. Speculation Speculation can be compared to a lottery jackpot, wherein the odds of winning are abysmally low. Depending on the lottery it may be 1 in 7 million, or 1 in 18 million, or somewhere in between. The chances of dying from flesh eating bacteria (1 in a million) are far higher than that of winning a jackpot. Remember: Every rupee that is used for speculation and lost is not working for the investor over the long-term to create wealth. Speculation promises to give everything one wants right now but rarely delivers; patience almost guarantees those goals down the road through the power of compounding.

Power of Compounding…

Investing …. Power of Compounding? If you leave a small portfolio invested, its value will mushroom over time through the miracle of compounding. As you earn investment returns, your returns begin to gain returns as well, allowing you to turn a measly investment into thousands of rupees if you leave it invested long enough.The more money you save and invest today, the more you'll have in the future. An amount of Rs. 100,000 which compounds @ 15% after 50 years is worth, hold your breath Rs. Eleven Crores. The power of compounding can be expressed using the following time value of money expression FV= (PV) *(1+k)^n

Investing …. Power of Compounding? FV = future value PV = present value K = rate of compounding n = no. of years

Real wealth, the stuff of dreams, is in fact created almost magically through the most mundane and commonplace principles: patience, time, and the power of compounding. Systematic Planning is an essential ingredient of a good investment programme.

Power of Compounding it works… Years 0 1 2 3 4 5 10 15 20 25 30 35

FMP

Sensex

6% 100,000 106,000 112,360 119,102 126,248 133,823 179,085 239,656 320,714 429,187 574,349 768,609

16% 100,000 116,000 134,560 156,090 181,064 210,034 441,144 926,552 1,946,076 4,087,424 8,584,988 18,031,407

Franklin India Blue Chip 27.9% 100,000 127,900 163,584 209,224 267,598 342,257 1,171,401 4,009,204 13,721,794 46,963,841 160,737,176 550,134,722

MF Average 20.0% 100,000 120,000 144,000 172,800 207,360 248,832 619,174 1,540,702 3,833,760 9,539,622 23,737,631 59,066,823

Planning & Setting Goals…

There are two times in a man’s life when he should not speculate: when he can’t afford and when he can.

Mark Twain, Following the Equator

Guidelines to tailoring a Lifecycle Investment Plan   

Specific needs require dedicated specific assets. Recognize your tolerance for risk. Persistent savings in regular amounts, no matter how small, pays off

Human Life Cycle – Disciplined Planning Phase I Income

Phase II

Phase III

Child’s Marriage Child’s Education Housing

Child birth Marriage

Having a Financial Goal is primary to starting a Investment Plan.

38 yrs

22 yrs

Birth & Education

Earning Years

22 yrs

Over 25 - 30 yrs

Retirement Age 60 yrs

Determining Investment Style…

Determining Investment Style…. Investment style can be compared to batting styles of different batsmen in a game of cricket. A swinger-for-sixes & fours - takes big risks for big gains. Slow & steady - hitting singles and doubles. A spectator sitting in the stands, chatting with his companions and occasionally cheering his home team on.   There are two major variables in figuring out ones investment style – the risk tolerance ( can you afford to get out ? ) and amount of time the investor can dedicate to investing ( One day or test match ? )

Determining - Investment Style…. Risk Tolerance How comfortable will you be seeing your investment decrease in the near term while waiting for it to increase over the long term? How comfortable will you be to invest in something in which the price changes every day - sometimes adversely. An investor X may be very comfortable with a downside of 25% in an investment whereas Investor Y could shy away from any downside in his investments.

Determining - Investment Style…. Risk Tolerance There are various degrees of risk across the investment spectrum, from government savings bonds (carries only sovereign risk and credit risk), which are considered riskfree as they are guaranteed by the government, to equities, commodities and options, where one can lose significant amount of the invested money. Remember : Though GOI savings bonds and bank fixed deposits are the safest, the safest road isn't always the best one.

Determining Investment Style…. The important thing to remember about stocks, though, is that an investor doesn't lose anything until he sells them. What if you invested when the market was at a high, then comes a big crash? If you don’t panic and sell during a crash ( eg May 2006 when the Sensex fell from 12000 to 9000 ), you would have done quite nicely as the market rebounded subsequently ( Sensex rose to 15000 in Aug 2007 ! ). Golden rule - when one is investing in the stock market, think long-term. Don’t invest any money in stocks that you will need in the short term.  

Determining Investment Style…. The Second Factor – Time …. How much time do you want to/are able to spend on investing? How active do you want to be in the management of money? If an investor wants to spend 15 minutes a year on investing, then maybe one should consider using Passive Strategies. If one is planning to set out eight hours a week, then you should consider researching companies and pouring over financial statements to pick individual stocks.

Determining - Investment Style…. Another time factor is : When does the investor need the money (time horizon) ? Whether the money is needed next week or in a hundred years will dramatically affect what investment vehicle to use. Caution - Although stocks deliver great long-term returns, the returns over periods of three years or less can be downright scary. Hence setting investment goals, planning the outlay of investment amount and time horizon and making appropriate investment choices in line with investor profiles is essential for the success of any investment programme.

Financial Planning is …    

To develop well defined goals Divide the goals into short term and long term goals To look at the current income, expenses and savings To map out well defined strategies to turn the dreams into reality

Steps in Financial Planning      

Identifying the investment objectives Investment Objectives – needs and requirements Determine the required returns to meet the financial objectives Determine the risk tolerance of the individual Design an asset allocation to meet the risk and returns Modify the asset allocation based on any change in needs or risk tolerance

Planning and Setting Goals…. Investing is like a long car trip… A lot of planning needs to go into it. • How long is the trip? (What is the investors "time horizon"?) • What should one pack? (What type of investments will the investor make?) • How much petrol is required for the trip? (How much money will the investor need to invest to reach his goals?) • Will the trip require a stop over along the way? (Does the investor have short-term financial needs?) • How long is the stay? (Will the investor need to live off the investment in later years?)

Planning and Setting Goals…. Running out of gas, stopping frequently to visit restrooms, and driving without sleep can ruin the trip. So can saving too little money or investing erratically An investor must answer the following questions before he can successfully set about the savings / investing journey:   What are the investors goals? Is the investment for retirement? A down payment on a house? Child's education? A second home? ….   How much money can the investor devote to a regular investing plan?

Planning and Setting Goals…. Ask some more pointed questions: • How much will college cost (at the time the child needs to go)? • How much yearly income is reasonable for retirement? The more specific the investor can be, the more likely he is to set and achieve reasonable goals. Once the investor has a rough idea of how much money he will need and how much time he has to get there. He can start to think about what investment vehicles might be right for him and what kind of returns he can reasonably expect. He needs to understand his investment style in order to match it with the various available investment choices.

Financial Planning – Increasing complexity 

Indian markets opening up  Increased

markets



volatility in the debt and equity

Investment Options available with the individuals are increasing  Equities,

Bonds, Mutual Funds, Derivatives, real estate  There are now around 30 mutual funds in India offering 400schemes 

Investment options expected to increase going forward  Commodities



trading, forex

Tax Planning requires an expert

Financial Planner would provide…       

A comprehensive platform of tailor made services Customised strategies and product application The highest quality in advise Confidentiality Single Point contact and personalized service An experienced Investment Advisor Resources and capabilities to ensure timely and accurate execution

Investment Products      

Stocks-offer dividend & capital appreciation. Bonds-offer safe return. Real estate-offers rent & capital appreciation. Precious metals-appreciate over time and are a hedge against uncertainties. Art work-appreciate over time. Insurance-used as security against risk of uncertainties.

Disciplined Investment Planning Derivatives & Equity Mutual Funds Income Funds & Real Estate

Aggressive Assets

Serious Assets

GOI Relief Bonds Bank Fixed Deposits

Sacred Assets

Investment Avenues H i g h

R I S K

Don’t Invest here

Growth Funds

Gilt Funds

Income Funds

Liquid Fund

Sedate Zone

Index Balance Funds Funds

Aggressive Stance High

RETURN

Low

Equity

Bank FD

Comp FD

P.O.

GOI Sec

Optimal RBI

## the size of the circle denotes the level of liquidity

L o w

Investments : Key Determinants 

The most important determinant of portfolio return is asset allocation . Security Selection 4.6% Market Timing 1.8% Other Factors 2.1% Asset Allocation 91.5% Source: Brinson, Singer & Beebower ( 1991 )

What is Asset Allocation? Asset allocation refers to the strategy of dividing your total investment portfolio among various asset classes, such as stocks, bonds and money market securities. Essentially, asset allocation is an organized and effective method of diversification  

Asset allocation Asset Allocation encompasses the following: Selection of the asset classes  Proper blending of these asset classes in a portfolio  Managing the asset mix over time. 

Lifecycle Investment Guide Late Thirties to Early Forties

Mid Twenties

10% 5% 20% 65%

10% 5%

REAL ESTATE CA SH BONDS

30%

STOCKS

5%

REAL ESTATE

STOCKS

15%

25%

10%

CA SH

38%

BONDS

Late Sixties and beyond

13% 44%

CA SH

55%

Mid Fifties

REA L ESTA TE

REAL ESTATE CASH

BONDS

BONDS

STOCKS

STOCKS

50%

Asset Allocation Principles    

Risk and return are related Risk depends on the length of time one holds the investment Rupee Cost Averaging can reduce the risks of investing Risks that an investor can take depends on the investor’s capacity to take risks and his attitude to take risks.

Asset Allocation drivers





Asset allocation must take into account 2 factors: Time horizon: the number of years you have to invest Risk tolerance: your ability or willingness to endure short-term declines in the value of your investments as you pursue your longterm investment goal

Asset Allocation Styles-Strategic Asset Allocation 



Strategic asset allocation is a method that establishes and adheres to what is called a 'base policy mix'. This is a proportional mix of assets based on expected rates of return for each asset class E.g. If stocks have historically returned 10% per annum and bonds have returned 5% per annum, a mix of 50% stocks and 50% bonds would be expected to return 7.5% per year

Asset Allocation Styles-Tactical Asset Allocation 



In the short term, the investor may occasionally engage in tactical deviations from the mix in order to capitalize on unusual or exceptional investment opportunities This flexibility adds a component of market timing to the portfolio, allowing investors to participate in economic conditions that are more favourable for the performance of one asset class than for others

Asset Allocation Styles-Tactical Asset Allocation 



Tactical asset allocation can be described as a moderately active strategy, since the overall strategic asset mix is returned to when desired short-term profits are achieved This demands some discipline from the investor or portfolio manager, as he or she must first be able to recognize when shortterm opportunities have run their course, and then rebalance the portfolio to the long-term asset position

Asset Allocation Styles-Dynamic Asset Allocation 



Dynamic asset allocation is when the mix of assets is constantly adjusted as markets rise and fall and the economy strengthens and weakens E.g. In a dynamic portfolio, if the stock market is showing weakness, stocks are sold in anticipation of further decreases in stock values, and if the market is strong, stocks are purchased in anticipation of continued market gains

Which Asset Allocation style is best ?  

 



Asset allocation can be an active process in varying degrees or strictly passive in nature. Choice of a precise asset allocation strategy or a combination of different strategies depends on one’s goals, age and risk tolerance These are only general guidelines on how investors may use asset allocation as a part of their core strategies Allocation approaches involving anticipating and reacting to market movements require a great deal of expertise and talent in using particular tools for timing these movements. Accurately timing the market is next to impossible, so make sure your strategy isn't too vulnerable to unforeseeable errors

Asset class characteristics 

The purpose of using various risk categories in portfolios is to reduce risk through diversification thereby enhancing the risk/return ratio.



The proper allocation of assets in a portfolio begins with determining the proportion of the total portfolio to invest in each asset class.

Risk / return characteristics of asset classes It is useful to calculate returns and measure risk for asset classes over various past intervals  Helps

to evaluate the behavior of the asset class over different economic cycles.  May be taken as representative of the returns that investors may have expected to earn over the period.  May in turn be useful in establishing benchmarks as to what returns investors might be expecting to earn in future.  Availability of realized return and risk measures can be used to compare the relative performance behavior across asset classes.

Asset class characteristics Security Class

Maturity Form of return of security

Risk

Cash Equivalents

Short

Discount

Low

Fixed Income / US govt

Long

Coupon

Medium

Municipal

Long

Coupon

Medium

Corporate

Long

Coupon

Medium

Preferred Stock

Perpetual

Dividend

Moderat ely high

Common Stock

Perpetual

Dividend and capital gains

High

Maximize returns, minimize risks

Understanding Risk & Returns …

Investment returns The rate of return on an investment can be calculated as follows: (Amount received – Amount invested)

Return =

_________________________________ Amount invested

For example, if Rs.1,000 is invested and Rs.1,100 is returned after one year, the rate of return for this investment is: (Rs.1,100 – Rs.1,000) / Rs.1,000 = 10%. In case if we adjust the return obtained from above for inflation we arrive at the real return in the investment

Return Variability 15% 6.00% 4.0%

2.5%

A

B

C -8%

Investment A: no return variation, no risk

Investment B: some return variation, some risk

Investment C: wide return variation, much risk

Nature of Risk   

The more variable an investment’s return, the greater its risk A highly variable return could lead to investment losses if the investment needs to be sold However, the longer the investment is held, the greater the chances of earning the long-run rate of return

What is investment risk? 

Investment risk is related to the probability of earning a low or negative actual return.



The greater the chance of lower than expected or negative returns, the riskier the investment.



Two types of investment risk  Stand-alone risk  Portfolio risk

Standard Deviation    

In investments risk is measured in terms of standard deviation Most important measure of variation Shows variation about the mean Has the same units as the original data N



Standard Deviation:

Xi=Observation µ= Mean N = Total No. of observation

 

 i 1

Xi    N

2

Comparing Standard Deviations Data A 11 12 13 20 21 Data B 11 12 13 20 21

14

14

15

15

16

16

17

17

18

18

19

19

Mean = 15.5 s = 3.338

Mean = 15.5 s = .9258

Data C Mean = 15.5 s = 4.57

11 12 13 14 15 16 17 18 19 20 21 It can be seen from above that data sets with same means could have widely different standard deviations depending on the variance from the mean

Breaking down sources of risk Stand-alone risk = Market risk + Firm-specific risk 

Market risk – portion of a security’s stand-alone risk that cannot be eliminated through diversification. Measured by beta.



Firm-specific risk – portion of a security’s standalone risk that can be eliminated through proper diversification.

What is the market risk premium? 

 

Additional return over the risk-free rate needed to compensate investors for assuming an average amount of risk. Its size depends on the perceived risk of the stock market and investors’ degree of risk aversion. Varies from year to year, but most estimates suggest that it ranges between 4% and 8% per year. The difference between the return on a risky asset and less risky asset, which serves as compensation for investors to hold riskier securities is known as Risk premium. The risk premium is one of the basis for any asset allocation decision.

Risk and Return are related Average Annual Return (1926 – 97)

Risk Index

Small company common stocks

12.7%

33.9%

Common stocks in general

11.0%

20.3%

Long Term bonds

5.7%

8.7%

US Treasury bills

3.8%

3.2%

Inflation Rate

3.1%

Source: Ibbotson Associates, Stocks, Bonds, Bills, and Inflation: 1997 Yearbook

Risk depends on the length of time one holds the investment Range of Annual Returns on Common Stocks for Various Time Periods, 1950-97 60.00%

52.62%

50.00% 40.00% 30.00%

23.92% 19.35%

20.00%

17.52%

16.65% 13.10%

10.00% 0.00% -10.00%

1 Year

5-2.36% Years

1.24%

10 Years

4.31%

15 Years

5.53%

20 Years

7.90%

25 Years

-20.00% -30.00% -40.00%

Maximum -26.47%

Minimum

Returns (%)

Sensex Returns Analysis -1979 to 2004 275 250 225 200 175 150 125 100 75 50 25 0 -25 -50

Average Return (%) Highest Return (%) Lowest Return (%)

1

3

5

7

10

15

Time Horizon (years)

Equities deliver superior risk adjusted returns over the long term

Market Timing is Dangerous… Annual Return of Sensex over last 24 years 20.00%

15.90%

15.00% 5.54%

10.00%

0.65%

5.00%

-16.93%

0.00% -5.00% -10.00% -15.00% -20.00%

Always Invested

Missed 10 best

Missed 20 best

Missed 72 best

The opportunity loss incurred when attempting to time the market could be exceptionally high Patience and discipline are required to avoid a wrong move

Rupee Cost Averaging can reduce the risks of investing-buy less when price is high & more when price is low. Period

Investment amount

Price per Share

Qty of Shares Purchased

1

Rs.150

Rs. 75

2

2

Rs.150

Rs.25

6

3

Rs.150

Rs.50

3

Total Cost

Rs.450

Average Price

Rs.50

Total Shares owned Weighted Average Cost: Rs. 40.91 ( 450 / 11)

11

Understanding Historical Trends is the key to success in Asset Allocation…

Looking through the rear view mirror makes the journey safer …. Investing is a lot of numbers. One needs to get used to that, and quickly. An investor can see exactly what he needs to get to his destination, and can be accountable to himself along the way. Bonds and stocks are the two major asset classes that have been used by investors over the past century. Knowing the total returns on each of these, and their associated volatility, is crucial to deciding where an investor should put his money.

India attracts international attention. . . The BRICs Report projections

 Focuses

on 4 largest developing economies: Brazil, Russia, India and China over the next 50 years  In less than 40 years, the BRICs economies together would be larger than the G6  India’s economy would be the 3rd largest in 30 years (behind US and China)  India has the potential to show fastest growth over the next 30 to 50 years (above 5%)  Per capita income (USD) could rise to 35 times the current levels by 2050

Drivers of the Indian Equity Market

Resilient economy capable of relatively high GDP growth ‘

Pockets of exceptionally high growth

Consensus on economic reform despite political change

Infrastructure Spend

Growing consumer class that is acquiring critical mass

Sustained growth in FDI and foreign portfolio investment

Corporate sector set to invest in capacity additions

World class market infrastructure and regulations

Changing Demographics of India 100%

6.7%

7.0%

7.5%

8.0%

8.4%

8.9%

45.9%

47.9%

50.7%

53.1%

54.4%

55.0%

45.1%

41.8%

38.9%

37.2%

36.0%

90% 80% 70% 60% 50% 40% 30% 20%

47.5%

10% 0% FY1996

FY2001 0-19 years

Source : Smith Barney Research

FY2006

FY2010

20-59 years

FY2013

FY2016

60 years & above

Consumption Demand Translation

Household sector – Savings Pattern Mutual Funds

2.2%

Shares

1.5%

Est. total stock of savings USD 1,500 bn

10.0%

Gold

20.0%

Bank Deposits

27.0%

Insurance / PF / SSS

39.3%

Others 0%

5%

10%

15%

20%

25%

30%

35%

40%

Others include physical assets like real estate.

•In US mutual funds constitute about 50% of the overall savings stock ….. Miles to go despite favourable tax regime Source : NCAER, 2002

Understanding Investor Behaviour

Investor Behaviour “ Success in investing doesn’t correlate with IQ once you are above the level of 25. Once you have ordinary intelligence, what you need is the temperament to control the urges that get other people into trouble in investing.” - Warren Buffet

Behavioural Finance-aspects of investor behaviour  



Equities is the preferred asset class due to its superior returns. Investors behave differently when they become part of the market ( herd mentality ) Behavioural anomalies distort our thinking and make us take decisions against our financial interest.

Behavioural Finance-classical economic theory v/s behavioural economic theory If I say I found a worn out Rs 100 while walking down a busy road, the classical economists would call it impossible because the markets being efficient, one among the many people using that road would have anyway found it. But in reality, it can happen…..which proves that markets are imperfect.

Behavioural Finance explains why we…          

Hold on to stocks that are crashing. Sell stocks that are rising. Ridiculously overvalue and undervalue stocks. Buy stocks that have peaked in a rally just before the price declines. Take desperate risks and gamble wildly when our stocks fall. Avoid taking reasonable risk of buying promising stocks unless there is ‘assured profit’ Never find the right price to buy or sell stocks. Prefer fixed income over stocks. Buy when we have to sell & vice versa. Buy or sell because others are doing so.

Behavioural Finance… 

 

 

Seeks to bridge the gap between economics & psychology; between how we make decisions & how we should make decisions. Creates investment strategies that capitalises on irrational investor behaviour. Seeks to identify market conditions in which investors are likely to overreact or underreact to new information. Invest or disinvest in securities before most investors recognise their error. Benefits from a reversal of fall or rise when the reversal happens.

Fallacies in Investor Behaviour Loss aversion fallacy : Scenario 1: you have Rs.1000 and two options. a) Guaranteed profit of Rs.500 b) Flip a coin; heads you gain Rs 1000, tails you gain nothing Scenario 2: you have Rs 2000 and two options. a) Guaranteed loss of Rs.500 b) Flip a coin; tails you lose Rs.1000, heads you lose nothing. Which option will you choose in each scenario ?

Fallacies in Investor Behaviour Loss aversion fallacy : In scenario 1 you are more likely to choose option ‘a’ because it has an assured profit of Rs.500 v/s a probable uncertain profit of Rs.1000. In scenario 2 you are more likely to choose option ‘b’ because you wanted to avoid an assured loss v/s an uncertain ‘zero’ loss possibility. In scenario 2 you were willing to take a greater risk to avoid an assured loss.

Impact of Loss Aversion 



 

Fear of losing drives investors towards fixed income securities, particularly after a major market crash, when actually good stocks are available at attractive valuations. Early profit booking and aversion towards booking loss, instead of riding profits & cutting losses makes overall returns low to negative. Madness induced by pain of loss makes investors take bigger risks and lose more. Tax aversion – seeing tax as a loss. In fact tax is related to profit, and you save tax when you make a loss.

Fallacies in Investor Behaviour Sunk Cost Fallacy : Scenario 1: You have complimentary tickets for a Filmfare awards night. On the evening of the program, traffic is disrupted due to floods. You have a long distance to travel. Would you go for the function? Scenario 2: You have bought a ticket for the same program for Rs.1500, and the same situation happens. Would you go?

Fallacies in Investor Behaviour Sunk Cost Fallacy : Most people would go for the show if they paid for the ticket, but avoid it if was complimentary. Actually this distinction does not make sense, as the money for the ticket is already spent. Whether you go or not the money will not come back. We must rather look at the additional risk of braving the floods, and additional costs in case the car is damaged, and we fall sick. The danger posed by floods is same whether the tickets were paid for or were free.

Impact of Sunk Cost Fallacy 



 

Buying more when the stock price falls even when the fall is due to fundamental weakness, thinking that average cost of purchase will be lower. Spending more money on repairs instead of replacing an asset, because you have already spent heavily on repairs, so you want to use it. Spending money on unviable projects, because already lot of money is spent on it. Eating beyond your capacity, because you paid a lot for the buffet dinner, disregarding your health.

Tax Planning  

   

Incomes exempt from tax under sec. 10 Deductions under chapter VI A for amounts utilised towards certain purposes qualifies as deduction from total income Splitting income by creating several entities such as HUF or Trust. Making gifts within specified limits Making investments which qualify for rebates Reducing taxable income by claiming expenses

Retirement Planning 

Assessment of current financial status



Ascertain post retirement needs



Determine what you need to save and how



Find extra money for savings

Nature of Insurance Sharing of risk Insurance is a device to share the financial losses which might befall on an individual or his family on the happening of a specified event. The event may be death in case of life insurance, fire in fire insurance etc. If insured the loss arising from these events will be shared by all insured in the form of premium.

Why Insurance  

What if our children disown us when we retire ? What if we have an accident ? What will happen to our loved ones, till they are financially independent. Insurance is a risk management tool to provide financial protection against unforeseen events. It also provides tax benefits.

Non-life v/s life insurance In life insurance, the purpose is not to make good the financial loss suffered. The insurer promises to pay a fixed sum on the happening of an event ( either death or expiry of term). If the event or the contingency takes place, the payment falls due if the policy is valid and in force at the time of the event.  In other insurance contracts, the contingency such as fire or the marine perils etc., may or may not occur. So, if the contingency occurs, payment is made, otherwise no amount is given to the policy-holder. 

How much Insurance Avoid being under-insured or over insured  Ideally life cover = annual household income * 7  10%-15% of annual income should go towards insurance.

Mutual Funds It pools money of several investors and invests this in stocks, bonds, money market instruments and other types of securities. Buying a mutual fund is like buying a small slice of a big pizza. The owner of a mutual fund unit gets a proportional share of the fund’s gains, losses, income and expenses.

Each mutual fund has a specific stated objective Fund Objective Equity (Growth)

What the fund will invest in Only in stocks

Debt (Income) securities

Only in fixed-income

Money Market (incl Gilt)

Short-term money market instruments

(incl.govt.securities) Balanced in

Partly in stocks and partly in fixed-income securities, in order to maintain a 'balance' returns and risk

Types of Mutual Funds-by management style In terms of fund management, mutual funds can be broadly classified into two categories: actively managed funds and passively managed – better known as index funds. In an actively managed fund, the fund manager uses his expertise and skills to select stocks across sectors and market segments. The sole intention of actively managed funds is to identify the best investment opportunities and exploit it in order to generate superior returns, and in the process outperform the benchmark index. On the contrary, index funds are aligned to a particular benchmark index like the Nifty or Sensex. They attempt to mirror the performance of the designated benchmark index, by investing only in the stocks of the index with the corresponding allocations.

Types of Mutual Funds-by structure 

Open-ended Funds : An open-end fund is one that is available for subscription all through the year. These do not have a fixed maturity. Investors can conveniently buy and sell units at Net Asset Value ("NAV") related prices. The key feature of open-end schemes is liquidity.



Closed-ended Funds : has a stipulated maturity period generally ranging from 3 to 15 years. Open for subscription only during a specified period. Investors can invest in the scheme at the time of the initial public issue and thereafter they can buy or sell the units of the scheme on the stock exchanges where they are listed. In order to provide an exit route to the investors, some close-ended funds give an option of selling back the units to the Mutual Fund through periodic repurchase at NAV related prices. SEBI Regulations stipulate that at least one of the two exit routes is provided to the investor.



Interval Funds Interval funds combine the features of open-ended and close-ended schemes. They are open for sale or redemption during pre-determined intervals at NAV related prices.

Types of Mutual Funds-by investment objective Growth Funds : Aims to provide capital appreciation over the medium to long- term. Normally invest a majority of their corpus in equities. Ideal for investors having a long-term outlook seeking long term growth.  Income Funds :Aims to provide regular and steady income to investors. Generally invest in fixed income securities such as bonds, corporate debentures and Government securities. Ideal for capital stability and regular income.  Balanced Funds : Aims to provide both growth and regular income. Such schemes periodically distribute a part of their earning and invest both in equities and fixed income securities in the proportion indicated in their offer documents. In a rising stock market, the NAV of these schemes may not normally keep pace, or fall equally when the market falls. Ideal for investors looking for a combination of income and moderate growth.  Money Market Funds : Aims to provide easy liquidity, preservation of capital and moderate income. Generally invest in safer short-term instruments such as treasury bills, certificates of deposit, commercial paper and interbank call money. Returns on these schemes may fluctuate depending upon the interest rates prevailing in the market. Ideal for Corporate and individual investors as a means to park their surplus funds for short periods. 

Types of Mutual Funds-other schemes 

Tax Saving Schemes : Offer tax rebates to the investors under specific provisions of the Indian Income Tax laws as the Government offers tax incentives for investment in specified avenues. Investments made in Equity Linked Savings Schemes (ELSS) and Pension Schemes are allowed as deduction u/s 88 of the Income Tax Act, 1961. The Act also provides opportunities to investors to save capital gains u/s 54EA and 54EB by investing in Mutual Funds.



Industry Specific Schemes : Invest only in the industries specified in the offer document. The investment of these funds is limited to specific industries like InfoTech, FMCG, Pharmaceuticals etc.



Index Schemes : Attempt to replicate the performance of a particular index such as the BSE Sensex or the NSE 50.



Sectoral Schemes : Invest exclusively in a specified industry or a group of industries or various segments such as 'A' Group shares or initial public offerings.

Benefits of Mutual Fund investment 

Professional Management : MFs provide services of experienced and skilled professionals.



Diversification : MFs invest in a number of companies across a broad cross-section of industries and sectors. This reduces risk because seldom do all stocks decline at the same time and in the same proportion. You achieve this with far less money than you can do on your own.



Convenient Administration : Investing in a MF reduces paperwork and helps you avoid many problems. Saves time and money.



Return Potential : Over a medium to long-term, MFs have the potential to provide a higher return as they invest in a diversified basket of selected securities.



Low Costs: MFs are a relatively less expensive way to invest compared to directly investing in the capital markets because the benefits of scale in brokerage, custodial and other fees translate into lower costs for investors.



Liquidity : In open-end schemes, the investor gets the money back promptly at net asset value related prices from the MF. In closed-end schemes, the units can be sold on a stock exchange at the prevailing market price or the investor can avail of the facility of direct repurchase at NAV related prices by the MF.

Benefits of Mutual Fund investment



Transparency : You get regular information on the value of your investment in addition to disclosure on the specific investments made by your scheme, the proportion invested in each class of assets and the fund manager's investment strategy and outlook.



Flexibility: Through features such as regular investment plans, regular withdrawal plans and dividend reinvestment plans, you can systematically invest or withdraw funds according to your needs and convenience.



Affordability: Investors individually may lack sufficient funds to invest in high-grade stocks. A mutual fund because of its large corpus allows even a small investor to take the benefit of its investment strategy.



Choice of Schemes: MFs offer a family of schemes to suit your varying needs over a lifetime.



Well Regulated: All MFs are registered with SEBI and they function within the provisions of strict regulations designed to protect the interests of investors.

Investing in index funds is relatively less cumbersome. Here, the two most important points which investors have to look out for are the expense ratio and the tracking error (i.e., the difference between the returns clocked by the benchmark index and index funds). On the other hand, actively managed funds have to capitalise on the opportunities in the market to generate superior returns. Thus, in the process they employ more resources (more analysts/fund managers) and in turn charge higher expenses than index funds. In the Indian context, the mutual funds segment is dominated by actively managed funds. Index funds occupy a much smaller share of the market. This is because Indian stock markets, being in a developing phase, still offer enough investment opportunities that if identified earlier on can outperform the benchmark index over the long-term (3-5 years). So well-managed actively managed funds have done a reasonable job of going one up over the index over the long-term.

What is an exchange-traded fund (ETF) An exchange-traded fund is open-ended index fund that can also be traded on the stock exchange. The fund attempts to combine the advantages of an open-ended fund with that of a close-ended fund. This means that unlike open-ended funds, an investor can exit from an ETF by selling his units on the stock exchange during trading hours.

To which index can an ETF be linked An ETF can be linked to any popular index like the BSE Sensex, S&P CNX Nifty, BSE 100. The Nifty BeES (an ETF launched by Benchmark AMC) is linked to the S&P CNX Nifty. (NSE Code - NIFTYBEES)

Open-Ended Schemes Mutual fund schemes that continuously offer new units to the public are called openended schemes. They offer units for sale without specifying any duration for redemption. Closed-End Schemes A mutual fund scheme in which the investors commit their money for a particular period.

  Expense Ratio A mutual fund's operating expenses, expressed as a percentage of its average net assets. Mutual funds with lower expense ratios are able to distribute a higher percentage of their total returns to their shareholders.

Entry Load The commission charged at the time of buying the fund. It is also called front-end load. Exit Load The commission or charge paid when an investor exits from a mutual fund. They are basically imposed to discourage withdrawals.

Sharpe Ratio The Sharpe ratio is calculated using standard deviation and excess return to determine reward per unit of risk. First, the average monthly return of the risk free security is subtracted from the fund's average monthly return. The difference in total return represents the fund's excess return beyond that of the risk-free investment. An arithmetic annualized excess return is then calculated by multiplying this monthly return by 12. To show a relationship between excess return and risk, this number is then divided by the standard deviation of the fund's annualized excess returns. The higher the Sharpe ratio, the better the fund's historical risk-adjusted performance.

Calculation of NAV NAV is simply the net value of Assets divided by the number of units outstanding. Asset value is equal to Sum of market value of shares/debentures + Liquid assets/cash held, if any + Dividends/interest accrued - Amount due on unpaid assets - Expenses accrued. Expenses including management fees, custody charges etc. are calculated on a daily basis.

Evaluate Investment Options…

Research Your Investments

Once you know HOW to invest.

It’s time to figure out where to put your money.

Research Your Investments What do I need to know?

Research Your Investment To.... • • • • • •

Discover historical trends Perform financial analysis Compare with the peer group Obtain relevant economic news Forecast future performance View recommendations of the experts

Portfolio Construction - Matching investor profile with investment options …

Asset Allocation An asset allocation is a group of assets held together so as to obtain the desired portfolio characteristics to suit distinct investor profiles. Bonds, Stocks and Cash equivalents are the most commonly used asset classes in any asset allocation.

C ash

Stocks

Bonds

The asset allocation for an investor depends on the investors expectations of returns and the risk the investor is willing to take.

Asset Allocation Let us now create a portfolio of a stock A and a bond B. Stock A is expected to deliver a return of 20% per annum with a volatility of 25% and bond B is expected to deliver a return 6% per annum with a volatility of 5%. In case if we allocate the assets in equal proportion 50% in A and 50% in B than the resultant portfolio is expected to deliver a return of (0.5)*20% + (0.5)*6% = 13.0% with an approximate volatility of 15%

Asset Allocation Now if we change the allocation to 25% in A and 75% in B than the resultant portfolio is expected to deliver a return of (0.25)*20% + (0.75)*6% = 9.5% with an approximate volatility of 10% It can be observed from the above that as one changes the asset allocation the returns as well as the risk profile of the portfolio changes considerably. Hence asset allocation is an investment portfolio technique that aims to balance risk and create diversification by dividing assets among major categories such as cash, debt and equity based on the risk profile and financial needs of the investor

Creating a portfolio: Once the asset allocation decision has been made the second step is to select individual securities and build a portfolios for each of the asset class under consideration. The process begins with selecting securities from the investment options in the assets class and adding the selected securities to form a portfolio The

standard deviation (σp) of a portfolio decreases as securities are added, because they would not be perfectly correlated with the existing portfolio.

Expected

return of the portfolio would remain relatively

constant Eventually

the diversification benefits of adding more securities dissipates (after about 10 securities). For example in large equity portfolios, σp tends to converge to ≈ 20%.

Creating a portfolio: Illustrating diversification effects of a equity stocks portfolio σ p (%) 35

Company-Specific Risk Stand-Alone Risk, σ p

20 Market Risk 0

10

20

30

40

2,000+

# Stocks in Portfolio

Tracking Your Portfolio Follow the performance of your selections    

Follow market trends Read the financial news Monitor your selected investments Share information with others

Do’s and Don’ts   

 

Do keep informed of your investments once you purchase them. Do understand the advise of experts before you take it. Do invest for the long term. Don’t be discouraged. An investment in your future is worth the effort. Don’t buy what you don’t understand.

Investment Terminology…

Investing terminology …. Asset Anything that has monetary value. Typical personal assets include stocks, real estate, jewelry, art, cars, and bank accounts. Asset allocation Dividing investment dollars among various asset classes, typically among cash investments, bonds, and stocks. Asset classes The three major asset classes are cash (also called cash reserves, money market instruments, etc.), bonds, and stocks. Diversification Investing in separate asset classes (stocks, bonds, cash) and/or stocks of different companies in an attempt to

Investing terminology …. Portfolio All the securities held by an individual, institution, or mutual fund. Compounding When an investment generates earnings on reinvested earnings. Capital appreciation One of the two components of total return, capital appreciation is how much the underlying value of a security has increased. If you bought a stock at Rs.10 per share and it has risen to Rs.13, you have enjoyed a 30% return or appreciation on the original capital you invested. Dividend yield is the other component of total return.

Investing terminology …. Dividend A share of a company's earnings paid to each stockholder. Dividend yield The annual percentage rate of return paid in dividends on a share of stock. To figure out the dividend yield (or just "yield"), divide the annual dividend by the current share price of the stock. Inflation A rise in the prices of goods and services. Real return The inflation-adjusted returns of an investment.

Investing terminology …. Risk-adjusted return A measure of how much risk a portfolio has employed to earn its returns. Unrealized capital gain/loss An increase (or decrease) in the value of a stock or other security that is not "realized" because the security has not yet been sold for a gain or loss. Annualize To make a period of less than a year apply to a full year to facilitate comparative analysis. Volatility The degree of movement in the price of a stock or other security.

Investing terminology …. Risk tolerance The measurement of an investor's willingness to suffer a decline (or repeated declines) in the value of investments while waiting and hoping for them to increase in value. Standard Deviation A measure of variation about the mean Beta A measure of the relative volatility of a stock or other security as compared to the volatility of the entire market (usually measured by the S&P 500 index). A beta above 1.0 shows greater volatility than the overall market, and a beta below 1.0 is less volatile.

Investing terminology …. Broker One who sells financial products. Whether in insurance, real estate, or stocks, most brokers work under compensation structures that are at direct odds with the best interests of their clients. When using a broker, you should always find out how he or she is compensated. Order A request from a client to a broker to buy or sell stock, either at the market price or at a specific price. Bear A person with a generally pessimistic market outlook or a pessimistic view on a sector or specific stock.

Investing terminology …. Bear market When the overall market loses value over an extended period of time. Bull A person with a positive or optimistic outlook for the general market, a market segment or industry, or for particular stocks Bull market A market that has been gaining value over a prolonged period.

Investing terminology …. Buy-and-hold A strategy that employs buying shares of companies with the intention of keeping those holdings for a long time, preferably indefinitely, and participating in the long-term success of being a partial owner of the business underlying the stock. Market timing An investment strategy based on predicting short-term price changes in securities, which is virtually impossible to do. Churn Churning is unconscious or conscious overtrading by a broker in a customer's account. Since brokers are most often compensated by the number of transactions made on a customer's behalf, there is temptation to trade too frequently, whether that's in stocks, bonds, or mutual

Investing terminology …. Capital gain/loss The difference between the price at which an asset is sold and its original purchase price (or "basis"). Long-term capital gain A profit on the sale of stock, mutual fund shares, or other securities that have been held for more than one year. Taxes owed on long-term capital gains are lower than those on short-term capital gains. Short-term capital gain A profit on the sale of a security that has been held for one year or less. Short-term capital gains are taxed as ordinary income.

Investing terminology …. Bond An interest bearing or discounted debt security issued by corporations and governments. Bonds are essentially loans by the investor to the issuer in return for interest payments. Common stock A security representing partial ownership in a public or private corporation. Blue-chip stocks Really good, large companies -- often INDEX components -- that have been around long enough to have a solid history of rewarding shareholders.

Investing terminology …. Index An unmanaged selection of securities whose collective performance is used as a standard to measure investment results. Mutual fund The pooled cash of many unitholders that is invested according to a stated objective, as defined by the fund's prospectus. Open-end fund A mutual fund that has an unlimited number of units available for purchase. Most mutual funds are openended.

Investing terminology …. Net asset value (NAV) The net asset value is the price of each unit of a mutual fund. It is calculated by subtracting the fund's liabilities from its total assets, and dividing that figure by the number of units outstanding. The NAV is the amount of money that an investor would receive for each unit if the mutual fund sold all of its assets, paid off all of its outstanding debts, and distributed the proceeds to unit holders.

OPT 4 MORE - Asset Allocation based on risk profile •

OPT 4 MORE is a asset allocation product based on the risk profile of the investor.

•

Asset allocation is a disciplined, long-term financial strategy for investing money into various asset classes based on the investment goals, time horizon, and risk tolerance.

•

Asset Allocation is an investment portfolio technique that aims to balance risk and create diversification by dividing assets among major categories such as cash, debt and equity based on the risk profile and financial needs of the investor

Know your Risk Profile 

Risk profiling is a well-established scientific and robust way of profiling risk among investors



Research has established clear relationships between demographic

attributes

of

investors

and

their

investment risk appetite 

OPT 4 MORE has a detailed client profiling form which would help the client in under standing his risk profile. This helps the investor to invest in the right asset allocation based on his needs.

Conservative Risk Profile 

This profile is suitable for investors who prefer to preserve capital and do not intend to taking any exposure to high risk investments. This investment profile aims to obtain marginally higher return predominantly through bank fixed deposits and a mix of debt schemes and does not invest in equity or related instruments.

Moderate Risk Profile 

This profile is suitable for investors who are willing to take an exposure of upto 30% in higher risk investments like equity related products with a medium term horizon in mind. This moderate equity exposure is to enhance the returns on the portfolio.

Aggressive Risk Profile 

This profile is suitable for aggressive investors who are willing to invest upto 50% of their portfolio in equity related products and clearly are well informed about the potential downside that could arise in case of a sharp fall in the markets. Over the long term period of upto 5 years this portfolio has the potential to outperform and deliver above average returns.

Returns

What is OPT 4 MORE ? Equity Plans

Hybrid Income Plans Short Term Plans Bank FDs / GOI Bonds

Risk

OPT 4 More is a tool to identify the risk return profile of an individual and suggests investments in a basket of Short term & Hybrid MF Income Plans, Equity MF and sacred assets like Bank FD and GOI bonds to suit each profile.

Opt 4 More – Current Asset Allocation Scheme

Equity Plans HSBC Equity Fund Franklin India Bluechip DSPML Opportunities Fund Reliance Vision Fund Prudential ICICI Power Sub Total Short Term Plans Prudential ICICI Short Term Plan Sub Total Floating Rate Plans Grindlays Floating Rate Fund - LT Prudential ICICI Floating Rate Fund- LT Sub Total Long Term Bonds GOI Savings Bonds - 8%(taxable) Sub Total Fixed Deposits ICICI Bank Deposits Sub Total Grand Total

Conservative Moderate Aggressive Allocation (%) Allocation (%) Allocation (%) 1 2 3

-

10 10 10 30

10 10 10 10 10 50

10 10

10 10

10 10

15 15 30

10 10

10 10

20

20

20 20

10 10

10 10

40 40 100

30 30 100

10 10 100

Opt 4 More – Performance Actual Performance Conservative Moderate Aggressive Allocation (%) Allocation (%) Allocation (%) One Year Returns

4.5%

17.6%

22.9%

Volatility Sharpe Ratio

0.4% 0.0

7.8% 1.7

11.8% 1.6

What is Systematic Investment Planning (SIP) ?

Systematic Investment Planning (SIP) 

Disciplined way of investing fixed amount at a regular frequency…. A time tested investment approach



Reduces the market risk by using the concept of rupee cost of averaging



Allows power of compounding help create wealth over a long term

Disciplined investing in equity funds over longer time frames helps generate superior returns

Rupee Cost Averaging In a falling market, SIP results in a better downside Protection Month

NAV

SIP

Units

Mar-00

70.87

1000

14

Apr-00

64.55

1000

30

May-00

56.79

1000

47

J un-00

56.28

1000

65

J ul-00

61.66

1000

81

Aug-00

53.99

1000

100

Sep-00

58.72

1000

117

Oct-00

51.63

1000

136

Nov-00

49.72

1000

156

Dec-00

53.01

1000

175

J an-01

52.28

1000

194

Average cost – INR 56.60

An investor would have lost 26% if he made a one time investment in March’00 as compared to the SIP loss of 7.6%

Rupee Cost Averaging… Month

NAV

SIP

Units

Mar-03

55.86

1000

18

Apr-03

53.84

1000

36

May-03

54.77

1000

55

J un-03

60.86

1000

71

J ul-03

67.31

1000

86

Aug-03

73.91

1000

100

Sep-03

84.70

1000

111

Oct-03

87.62

1000

123

Nov-03

100.83

1000

133

Dec-03

106.23

1000

142

J an-04

124.22

1000

150

Feb-04

120.38

1000

158

Mar-04

129.35

1000

166

Average cost – INR 78.22

In the backdrop of a sharp rally , a SIP may under- perform a single entry strategy for a short period of time.

Systematic Investment Planning (SIP) The value of INR 1000 invested every month for the last 2 year period in a systematic investments plan in the following equity funds would be…. Value of Invested Amount Equity Fund Reliance Growth Fund 46,280 DSPML Opportunities Fund 40,570 HSBC Equity Fund 38,072 Templeton India Growth 38,050 Prudential ICICI Power 37,860 Prudential ICICI Growth 33,680

Systematic Investment Planning (SIP) Equity Fund Reliance Growth Fund DSPML Opportunities Fund HSBC Equity Fund Templeton India Growth Pru-ICICI Power Pru-ICICI Growth

Return(%) 77.9 59.6 72.0 51.2 50.6 36.2

Examples (Ten Year SIP) Investing INR 1000 per month from January’97 to December’04 in Franklin India Bluechip Fund would have generated return of 36% over the the past eight years A Savings corpus of INR 4.24 lakhs could have been built in eight years by saving INR 1000 per month through an SIP in an equity fund by investing INR 96,000

Examples (Five Year SIP) Investing INR 1000 per month from January’99 to over the last December’04 in Pru-ICICI Power would have generated return of 37% p.a. over the last five years A Savings corpus of INR 1.46 lakhs could have been built over a five year time period by saving INR 1000 per month through an SIP in an equity fund by investing a sum of INR 60,000