Ch01 Understanding Invesmts

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Chapter 1

Lecture 1


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Investment

Commitment of funds to assets which will beheld over a future period.

Field of investments

Management of an investors wealth

Investments deals with 2 major areas

Analysis

Management


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4 BASIC AREAS IN FINANCE

Corporate Finance

Investments

Financial Institutions

International Finance


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Answers 3 main questions?


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What long-term projects are appropriate to invest in?

e.g. What line of business to be in & which assetsshould be chosen?

What is the best way to finance these projects?

e.g. Borrow money OR dilute ownership

How projects financial activities will be managed?

e.g. collecting from customers OR paying suppliers


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What determines price of a financial asset?

e.g. What is the value of a share of stock or Bond?

What are the risks & rewards of a financial asset?

e.g. is the return on investment reasonable given itsrisk?

What combination of different assets should be held?

e.g. what to buy or sell, how much & when?


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Investments - Deals with

Financial AssetsCovers 3 main profession areas

Financial Advisors/Stockbrokers

e.g. helping with buy & sell decisions

Portfolio Managers

e.g. professional money managers forindividuals or corps

Security Analyst

e.g. researches & evaluates individualinvestments in depth


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Covers a wide range of financial activities

Banks

e.g. deals with loans, customer deposits, etc

Insurance Companies

e.g. receives premiums & invests money


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Deals with same areas from an international perspective

Corp finance

Investments

Financial Institutions


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What are major types of

Financial Assets?DIRECT INVESTING

Non-Marketablesecurities

Money Markets

Capital MarketsDerivatives

Markets

INDIRECT

INVESTING

InvestmentCompanies

Mutual FundsStock, Bond

Funds


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Fixed Income (Bonds)

Treasuries

Agencies

Municipals

Corporate

Equities

Preferred Stock

Common Stock


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The following are some reasons:

Make better financial decisions

Be a finance professional

Make money???!


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What is the investment

terminology? Financial Assets (Securities)

Real Assets

Marketable Securities

Portfolio

Portfolio Management

Efficient Market Hypothesis


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More basic terms

Risk

Expected Return

Realized return

Security Analysis

Passive Investment Strategy

Active investment Strategy


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Two Most important elements of investment decisions :


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Two Most important elements of investment decisions :

Return

The % change in wealth from beginning till end ofperiod.

Return = (End period wealth Begin periodwealth)/Begin period wealth

Risk

Main constraint for investors chance of loss

The probability actual outcome will be different (less)than expected outcome


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What is the investment

decision process?

The Tradeoff Between ERand Risk

Investors managerisk at a cost - lowerexpected returns(ER)

Any level ofExpected Return andRisk can be attained

Risk

ER

Risk-free Rate

Bonds

Stocks


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There are 2 main Types:

Fundamental Analysis

Technical Analysis


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There are 2 main Types:

Fundamental Analysis

Valuing a company based on companyspecific information (dividends etc)

Technical Analysis

Studying securities historical market pricesto predict future prices.


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Determinants of Portfolio

PerformanceApprox 94% of variabilityof a fund's investment return is due to asset allocation!!


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There are 2 main areas:

Financial Markets & the economy

a) Consumption Timing

b) Allocation of Riskc) Separation of ownership

Clients of the Financial System

a) Household Sector

b) Business Sector

c) Government Sector


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What are Financial

Markets?Financial Market

Purpose of Financial Markets


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What are Financial

Markets?Financial MarketMechanism to bring Buyers & Sellers

together dealing in Debt, Equity & otherfinancial products.

Composed of all institutions andprocedures for bringing buyers andsellers of financial instruments together.

Purpose of Financial MarketsThe purpose of financial markets is to

efficiently allocate flow of funds fromsavings to ultimate users.


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What are Financial

Markets?Basic TypesPrimary Markets (underwriters)

Secondary Markets (createliquidity)

Dealer Vs Auction markets

Cash Flows between the


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Cash Flows between theFirm and the Financial

MarketsTotal Value ofFirms AssetsTotal Value of the Firm

to Investors inthe Financial Markets

B. Firminvests inassets

CurrentAssetsFixedAssets

C. Cash flow fromfirms assets

D. Government

E. Retained cash flows

A. Firm issues securities

F. Dividends and

debt payments

FinancialMarkets

Short-term debt

Long-term debtEquity shares


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Some important aspects:

The Great UnknownGlobal Aspect

Institutional Investors


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Thank You for

your time &

patience

Ch01 Understanding Invesmts

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