MEANING OF INVESTMENT
Investment is the employment of funds with the aim of getting return on it. In general terms, investment means the use of money in the hope of making more money. In finance, investment means the purchase of a financial product or other item of value with an expectation of favorable future returns.
Investment of hard earned money is a crucial activity of every human being. Investment is the commitment of funds which have been saved from current consumption with the hope that some benefits will be received in future. Thus, it is a reward for waiting for money. Savings of the people are invested in assets depending on their risk and return demands.
Investment refers to the concept of deferred consumption, which involves purchasing an asset, giving a loan or keeping funds in a bank account with the aim of generating future returns. Various investment options are available, offering differing risk-reward tradeoffs. An understanding of the core concepts and a thorough analysis of the options can help an investor create a portfolio that maximizes returns while minimizing risk exposure.
OBJECTIVES OF INVESTMENT IN SECURITIES
People make investment for a variety of purposes. The objectives of investments should be understood before initiating the process of investment. Selection of investments should rather be based on research of various factors. The fundamental consideration for investment should be a growth oriented company with substantial future potential. The major objectives of investment in securities are as follows:
1. Income: The major objective of every investment is to earn income in the form of dividend, yield or interest. Suitable securities are those whose prices are relatively stable but still pay reasonable dividends or interest, such as blue chip companies. The investment should earn reasonable and expected return on the investments.
2. Capital Appreciation: The other important objective of investments is appreciation in the capital invested over a period of time. Capital appreciation can be achieved in the following three ways:
a) Conservative Growth: Investors who seek to achieve conservative growth seek to build an investment portfolio that will make money over the long term by capital appreciation known as wealth building over time.
b) Aggressive Growth: Investors who seek to achieve short term and long term capital gains opt for aggressive growth in stocks.
c) Speculation: An investor with speculation as an objective wants to maximize returns by buying and selling shares and securities so often solely to make profit from short term price fluctuations.
3. Forms of return: The returns expected from securities may be of two types:
a) Periodic Cash Receipts: Cash dividends are payable as and when the board of directors of the company decides to distribute the after tax earnings of the company to the shareholders. In case of debentures, bonds, bank deposits etc. the coupon rate is payable at the end of each specified period?
b) Capital Gain: The second component of return is the change in the price of investment called the capital gain or loss. This element of return is the difference between the purchase price and the price at which the asset can be or is sold.
The combination of periodic cash receipts and capital gain made on investments constitute the total return on particular investment.
4. Safety and Security of Funds: Another important consideration in making investments is that the funds so invested should be safe and secure. The investment should be capable for redemption as and when due.
5. Risk: The level of risk depends on the object of investment. An investor who expects greater return should be prepared to take greater risk. By careful planning and periodical review of the market situation, the investor can minimize his risk on the investments.
6. Liquidity: The liquidity of investments is another consideration to be kept in mind by the investor. Before making the investment, the investor should consider the degree of liquidity required. Certain securities are capable of being sold in the readily available market and some securities may not be so liquid. The investors generally prefer securities which ensure liquidity and marketability.
7. Tax Considerations: Before making the investments the investor should also take into consideration the provisions of income tax, capital gains tax, wealth tax and gift tax Acts, to minimize his tax burden and avail all tax exemptions available to him.
The investor should also keep in mind considerations like the extent of inflation, diversification of portfolios, degree of risk and risk coverage, growth rate etc.
CLASSIFICATION OF INVESTMENTS AND INVESTMENT ALTERNATIVES
Different methods of the classification of the investment avenues are available. Some of the methods are as follows:
1. Physical Investments: Physical investments are tangible assets like motorcars, aeroplanes, ships, buildings, plant and machinery etc. some of the physical assets like machinery, equipment etc. are useful for further production whereas some like gold and silver ornaments, motor cars etc. are not useful for further production.
2. Financial Investment: Financial assets are those which are used for consumption or for production of goods and services or for further creation of assets. Examples are shares, NSS certificates, bonds, etc.
3. Marketable and Non-Marketable Investments: Some investments which are listed on the stock exchanges are easily marketable and can converted into cash in a short time e.g. shares, bonds and other instruments issues by government or companies. Non-marketable investments like bank deposits, provident funds, insurance schemes etc. cannot be bought or sold in the open market in the stock exchanges and thus are difficult to be converted into cash immediately.
4. Transferable and Non-Transferable: Instruments like shares, bonds can be transferred in the name of others or can be sold or exchanged for cash or kind, whereas some instruments like insurance certificates, NSCs, cannot be transferred.
Wide varieties of investment avenues are now available in India. An investor can himself select the best avenue after studying the merits and demerits of different avenues. Even financial advertisements, newspaper supplements on financial matters and investment journals offer guidance to investors in the selection of suitable investment avenues. Investment avenues are the outlets of funds. A wide range of investment alternatives are available, they fall into two broad categories, viz, financial assets and real assets. Financial assets are paper (or electronic) claim on some issuer such as the government or a corporate body. The important financial assets are equity shares, corporate debentures, government securities, deposit with banks, post office schemes, mutual fund shares, insurance policies, and derivative instruments. Real assets are represented by tangible assets like residential house, commercial property, agricultural farm, gold, precious stones, and art object. As the economy advances, the relative importance of financial assets tends to increase. Some of the important investment alternatives are given below:
a) Non-marketable Financial Assets: A good portion of financial assets is represented by non-marketable financial assets. A distinguishing feature of these assets is that they represent personal transactions between the investor and the issuer. For example, when you open a savings bank account at a bank you deal with the bank personally. In contrast when you buy equity shares in the stock market you do not know who the seller is and you do not care. These can be classified into the following broad categories:
1) Post office deposits
2) Company deposits
3) Provident fund deposits
4) Bank deposits
b) Equity shares: By investing in shares, investors basically buy the ownership right to that company. When the company makes profits, shareholders receive their share of the profits in the form of dividends. In addition, when a company performs well and the future expectation from the company is very high, the price of the company’s shares goes up in the market. This allows shareholders to sell shares at profit, leading to capital gains. Investors can invest in shares either through primary market offerings or in the secondary market.
c) Preference Shares: Preference shares refer to a form of shares that lie in between pure equity and debt. They have the characteristic of ownership rights while retaining the privilege of a consistent return on investment. The claims of these holders carry higher priority than that of ordinary shareholders but lower than that of debt holders. These are issued to the general public only after a public issue of ordinary shares.
d) Debentures and Bonds: These are essentially long-term debt instruments. Many types of debentures and bonds have been structured to suit investors with different time needs. Debentures and Bonds are the instruments that are considered as a relatively safer investment avenues. Though having a higher risk as compared to bank fixed deposits, bonds, and debentures do offer higher returns.
e) Mutual Fund Schemes: The Unit Trust of India is the first mutual fund in the country. A number of commercial banks and financial institutions have also set up mutual funds. Mutual funds have been set up in the private sector also. These mutual funds offer various investment schemes to investors. The number of mutual funds that have cropped up in recent years is quite large and though, on an average, the mutual fund industry has not been showing good returns, select funds have performed consistently, assuring the investor better returns and lower risk options.
f) Money market instrument: By convention, the term "money market" refers to the market for short-term requirement and deployment of funds. Money market instruments are those instruments, which have a maturity period of less than one year. Examples of money market instruments are T-Bills, Certificate of Deposit, Commercial Paper etc.
g) Life insurance: Now-a-days life insurance is also being considered as an investment avenue. Insurance premiums represent the sacrifice and the assured sum the benefit. Under it different schemes are:
1) Endowment assurance policy
2) Money back policy
3) Whole life policy
4) Term assurance policy
h) Real estate: With the ever-increasing cost of land, real estate has come up as a profitable investment proposition.
i) Bullion Investment: The bullion market offers investment opportunity in the form of gold, silver, and other metals. Specific categories of metals are traded in the metals exchange. The bullion market presents an opportunity for an investor by offering returns and end value in future. It has been observed that on several occasions, when the stock market failed, the gold market provided a return on investments.
j) Financial Derivatives: These are such instruments which derive their value from some other underlying assets. It may be viewed as a side bet on the asset. The most important financial derivatives from the point of view of investors are Options and Futures.
FEATURES OF AN IDEAL INVESTMENT PROGRAMME
While investing their money, the investors must have some definite ideas regarding the features their investments must process. These features must be consistent with the objectives, preferences and constraints of the investors. These investments must also offer optimum facilities and advantages to investors as for as the circumstances permit. The investors, generally, form their investment policies on the basis of the following features:
a) Safety: The safety of investment is identified with the certainty of return of capital without loss of money or time. Safety is another feature that an investor desires from investments. Every investor expects to get back the initial capital on maturity without loss and without delay. Investment safety is gauged through the reputation established by the borrower of funds. A highly reputed and successful corporate entity assures the investors of their initial capital. For example, investment is considered safe especially when it is made in securities issued by the government of a developed nation.
b) Liquidity: A liquid investment is that which can be converted into cash immediately at full market value in any quantity whatsoever. Every investor must ensure a minimum liquidity in his investments. To ensure liquidity, the investor should keep a part of his total investments in the form of readily saleable securities. Investments like real estate, insurance policy, pension fund, fixed time securities etc. cannot ensure immediate liquidity. Such investments should be added in the portfolio only after ensuring minimum liquidity.
c) Regularity and Stability of Income: Regularity of income at a stable and consistent rate is essential in any investment programme. However, the stability of income is not consistent with the other investment principles. Monetary stability limits the scope for capital growth and diversification.
d) Stability of Purchasing Power: Investors should balance their investment programmes to fight against any purchasing power instability. Any rational investor knows that money is losing its value by the extent of the rise in prices. If money lent cannot earn as much as rise in prices or inflation, the real rate of return is negative.
e) Capital Appreciation: Capital appreciation has become a very important principle in the present day’s volatile markets. The ideal growth stock is the right issue in the right industry bought at the right time. The investors should try and forecast which securities will appreciate in future. It is an exceedingly difficult job and should be done thoughtfully in a scientific manner and not in the way of speculation or gambling.
f) Tax Benefits: Every investor must plan his investment programme keeping in mind his tax status. Investors should be concerned about the returns on the investments as well as the burden of taxes upon such returns. Real returns are returns after taxes. Tax burden on some investments are more whereas some investments are tax free. The investors should plan their investments in such a way that the tax liability is minimum.
g) Legality: Legal aspect of investments must also be kept in mind. It legal securities pose many problems for the investors. Investors should be aware of the various level provisions relating to the purchase of investments. The safest way is to invest in the securities issued by the UTI, the LIC or Post Office National Saving Certificates. These securities are legal beyond doubt and help the investor in avoiding many problems.
h) Concealability: Sometimes, the investor has to invest in securities which can be concealed and leave no record of income received from them. Concealability is required to be safe from social disorders, government confiscation or unacceptable levels of taxations. Gems, precious stones etc. have been used for this purpose since ages because they combine high value with small bulk and are readily transferable. Concealability when done to avoid confiscation or taxation is not legal but it is still resorted to by majority of investors.
i) Tangibility: Most of investors prefer to keep a part of their money invested in tangible securities like building, machinery, land etc. Tangible property does not yield an income, the only satisfaction is the pride of possession.