Study On Security Analysis For Making Investment
Security analysis is a pre-requisite for making investments. In the present day financial markets, investment has become complicated. One makes investments for a return higher than what he can get by keeping the money in a commercial or cooperative bank or even inan investment bank. In the finance field, it is a common knowledge that money or finance is scarce and that investors try to maximise their return. But the finance theory states that the return is higher,if the risk is also higher. Return and risk go together and they have atrade off. Most of the investments are risky to some degree. The art of investment is to see that the return is maximised with the minimum of risk, which is inherent in investments. If the investor keeps his money in a bank in savings account, he takes the least risk, as themoney is safe and he will get back when he wants it. But he runs the risk that the return in real terms, adjusted for inflation is negative or small and even if positive, it may not come up to his expectations or needs. In this paper, we are concentrating on the term ‘Investment’. But for making investment, we need to make security analysis. Investment has been on a growing trend in a multiplying fashion since India opened up its economy by liberalising various industries and reducing licenses. This has been observed with the change in structural reforms and also with the kind of investment flows, India has observed in the last decade. Investment management has emerged to be one of the main strategic techniques for growth in the globalised dynamic environment.
Definition of security analysis
For making proper investment involving both risk and return, the investor has to make a study of the alternative avenues of investment– their risk and return characteristics and make proper projection or expectation of the risk and return of the alternative investments under consideration. He has to tune the expectations to his preferences of the risk and return for making a proper investment choice. The process of analysing the individual securities and the market as a whole and estimating the risk and return expected from each of the investments with a view to identifying undervalued securities for buying and overvalued securities for selling is both an art and a science and this is what is called security analysis.
Security Analysis in both traditional sense and modern sense involves the projection of future dividend, or earnings flows, forecast of the share price in the future and estimating the intrinsic value of a security based on the forecast of earnings or dividends. Thus, security analysis in traditional sense is essentially an analysis of the fundamental value of a share and its forecast for the future through the calculation of its intrinsic worth of the share. Modern security analysis relies on the fundamental analysis of the security, leading to its intrinsic worth and also risk-return analysis depending on the variability of the returns, covariance, safety of funds and the projections of the future returns. If the security analysis is based on fundamental factors of the company, then the forecast of the share price has to take into account inevitably the trends and the scenario in the economy, in the industry to which the company belongs and finally the strengths and weaknesses of the company itself- its management, promoters’ track record, financial results, projections of expansion, diversification, tax planning etc. all these studies are only a part of the total security analysis that the investor should aim at. Investment is commitment of funds in the expectation of some positive rate of return. These funds are to be used by another party, user of fund, for productive activity. It can be giving an advance or loan or contributing to the equity (ownership capital) or debt capital of a corporate or non-corporate business unit. In other words, investment means conversion of cash or money into a monetary asset or a claim
on future money for a return. This return is for saving, parting with saving or liquidity and lastly for taking a risk involving the uncertainty about the actual return, time of waiting and cost of getting back funds, safety of funds, and risk of the variability of the return.
Investment in capital market is made in various financial instruments, which are all claims on money. These instruments may be of various categories with different characteristics. These are all called securities in the market parlance. In a legal sense also, the Securities Contracts
Regulation Act, (1956) has defined the security as inclusive of shares, stocks, bonds, debentures or any other marketable securities of a like nature or of any debentures of a company or body corporate, the Government and semi-Government body etc. It includes all rights and interests in them including warrants, and loyalty coupons etc.,issued by any of the bodies, organisations or the Government. The derivatives of securities and Security Index are also included as securities in the above definition in 1998.In the strict sense of the word, a security is an instrument of promissory note or a method of borrowing or lending or a source of contributing to the funds needed by a corporate body or non-corporate
body. Private security for example is also a security as it is a promissory note of an individual or firm and gives rise to a claim on money. But such private securities or even securities of private companies or promissory notes of individuals, partnerships or firms to the extent that their marketability is poor or nil, are not part of the capital market and do not constitute part of the security analysis. In nutshell, securities are financial instruments that have been created
to represent a legal obligation to pay a sum in future in return for the current receipt of value. Securities thus represent the cash equivalent received from another person.
Objectives of security analysis
1. To present important facts regarding a stock or bond in a manner most informing and useful to an actual or potential owner.
2. Seeks to reach dependable conclusions, based upon facts and applicable standards as to safety and attractiveness of a given security at the current or assumed price.
The Scope and Limitations of Security Analysis
Analysis connotes the careful study of available facts with the attempt to draw conclusions there from based on established principles and sound logic. But applying analysis to the field of securities we encounter the serious problem that investment is by nature not an exact science. The same is true for law and medicine, for here also both individual skill (art) and chance are important factors in determining success or failure. Nevertheless, in these professions analysis is not only useful but also indispensable, so that the same should probably be true in the field of investment and possibly that of speculation.
Functions of Security Analysis
1. Descriptive Function: Limits itself to marshaling the important facts relating to an issue and presenting them in a coherent, readily intelligible manner.The least imaginative type is what is presented by various securities manuals . Here the material is accepted in the form supplied by the company. A more penetrating descriptive analysis is by various kinds of adjustments in order to bring the true operating results in the period covered and particularly in order to place the data of a number of companies on a fairly comparable plane. (LIFO vs. FIFO, nonrecurring gains/losses, nonconsolidated subsidiaries, reserves) On a still higher level would include consideration of the changes in the company’s position over a long period of years, also a detailed comparison with others in the same field, also projects of earning power on various assumptions as to future conditions.
2. The Selective Function: The analyst must be ready to pass judgment on the merits of securities and is expected to advice others on their sale, purchase, retention or exchange. Graham says that the laymen belief that analyst should be able to give advice of this sort about any stock or bond issue at any time is incorrect. There are times and situations that are propitious for a sound analytical judgment; others which is poorly qualified to handle; many others for which his study and his conclusions may be better than nothing, but still of questionable value to the investor. A proper analysis of common stock will take into account all the important points in the company’s past record and present position, and it will apply informed judgment to the projection of future results. The approach Graham suggests to select common stocks is to value the stock independently of its market price and to purchase it when it is available at a substantial discount to this value. This independent value is called Intrinsic Value or Central Value. Intrinsic value is defined as ―that value which is justified by the facts e.g., assets, earnings, dividends, definite prospects.‖. In the usual case the most important single factor determining value is now held to be the indicated average future earning power. IV would then be found by first estimating this earnings power, and then multiplying that estimate by an appropriate capitalization factor. The multiplier takes into account a large number of valuation elements, such as the expected stability of earnings, the expected growth factor, the expected dividend policy – all of which may be comprehended in the quality of the company – and perhaps the assets behind the shares. Graham says that experience affirms that the price and the independently ascertained value do tend to converge as time goes on. The weakness of this method is lack of precision and un-dependable nature of any calculation of economic future. A valuation may be very skillfully done in the light of all pertinent data and the soundest judgment of future probabilities; yet the market may delay adjusting itself to the indicated value for so long a period that new conditions may supervene and bring with them a new value. Thus even though the price ultimately converges with that new value,the old valuation may have proved undependable.
3. The Critical Function:
The analyst must be highly critical of accounting methods. He must also concern himself with all corporate policies affecting the security owner, for the value may be largely dependent upon the acts of the management. In this category are included questions of capitalization setup, of dividend and expansion policies, of managerial competence and compensation, and even of continuing or liquidating an unprofitable business.
REVIEW OF LITERATURE
Investment and Speculation:
An investment operation is one which, upon thorough analysis, promises safety of principal and a satisfactory return. Operations not meeting these requirements are speculative. An ―investment operation is used instead of an issue because it is unsound to think of investment character as inhering in an issue since price is an essential element. So a stock may have investment merit at one price level but not at another. Investment must always consider price as well as the quality of the security. Strictly speaking, there can be no such thing as an ―investment issue in the absolute sense, i.e., implying that it remains an investment regardless of price. The mechanics of speculation causes increased transaction costs. Underlying analytical factors in speculative situations are subject to swift and sudden revision. Impact of unknown factors is skewed negatively in speculative situations. Those on the inside often have an advantage of this kind which nullifies and loads the dice against the analyst working with some of the facts concealed from him. The value of analysis diminishes as the element of chance increases. For investment, the future is essentially something to be guarded against rather than to be profited from.If future brings improvement, so much the better; but investment as such cannot be founded in any important degree upon the expectation of improvement. Speculation, on the other hand, may always properly –and often soundly – drive its basis and its justification from prospective developments that differ from past performance. . There are two elements of basic importance, I think, that the analyst should recognize in the behavior of stocks over the last six years. The first is the principle of continuity, and the other is what I would call the principle of deceptive selectivity in the stock market. First, with regard to continuity: The extraordinary thing about the securities market, if you judge it over a long period of years, is the fact that it does not go off on tangents permanently, but it remains in continuous orbit. When I say that it doesn't go off on tangents, I mean the simple point that after the stock market goes up a great deal it not only comes down a great deal but it comes down to levels to which we had previously been accustomed. When the security market advanced in the last few years to levels which were not unexampled but which were high in relation to past experience, there was a general tendency for security analysts to assume that a new level of values had been established for stock prices which was quite different from those we had previously been accustomed to.
Classes of security buyers
1.Defensive investors are those who should place their chief emphasis upon the avoidance of any serious mistakes or losses and their second emphasis upon freedom from effort, annoyance, and the necessity of making frequent investment decisions. The great majority of security holders belong in the defensive category. Defensive investors should divide his funds into two parts. The main hazards they face are of three kinds
ü stock market speculation
ü buying second rate issues
ü buying good common stocks at excessive prices
2. Enterprising investors are willing and able to devote time and care to the selection of sound and attractive investments. The first rule of intelligent action must be that he will never embark upon a security operation which he does not fully comprehend and which he cannot justify by reference to the results of his own study and experience. The endeavor to make money in securities is a business undertaking, and it must be conducted in accordance with business principles. An enterprising investor may follow the simple two-part policy of the defensive investor with respect to some portion of his funds, and employ the remainder in more aggressive operations. He may endeavor to buy in low markets and sell in high markets. He may try to select companies that have unusual prospects for long term growth, making sure he is not paying too much in advance for these favorable possibilities. Or, he may place his prime emphasis upon the purchase of bargain issues which are selling considerably below their true value.
Quantitative and Qualitative Factors in Security Analysis
· The Margin of Safety Concept: Analyzing a security involves an analysis of the business. Such a study can be carried out to an unlimited degree of detail and hence must include a sense of proportion in the use of his technique. It is convenient at times to classify the elements entering into an analysis under two headings: the quantitative and the qualitative.
· Quantitative items might be called the company’s statistical exhibit and may be sub classified under:
(2) earnings and dividends
(3) assets and liabilities, and
(4) operating statistics.
· Qualitative factors on the other hand deal with such matters as the nature of the business; the relative position of the company in the industry; its physical, geographical and operating characteristics; the character of the management; the outlook for the unit, industry and for business in general.
· Quantitative factors are more easily obtainable and much better suited to forming of definite and dependable conclusions. Industry analysis can be most useful when it leads to well-founded conclusions differing from those in vogue. Typically, such conclusions would forecast the reversal of a condition or trend that had been so long continued. Such reversals of this kind are surprisingly common.
· Trend is essentially a qualitative factor. Many are convinced that the dangers of overpaying for stocks of strong and promising companies are much less than those of buying poor quality issues because they seem to offer a lot of assets or earnings for the money. This might be true for untrained security buyers as they are easily led astray by an apparently attractive price to buy low grade securities but that a competent analyst would have shown that these securities are not attractively priced in reality and that the untrained have been deceived by a temporarily good showing or had overlooked serious weakness. Within limits he may trade off, as it were, the qualitative factors against the quantitative ones, making sure that the composite result indicates an underlying value well in excess of price. The kind of security analysis we regard as a most rewarding discipline is concerned primarily with values which are supported by the facts and not those which depend largely upon expectations.
· The analyst must take possible future changes into account but his primary aim is not so much to profit from them as to guard against them.
· Three offsets to the hazards of the future: He may place his prime emphasis upon the presence of a large margin of safety for the security, which should be able to absorb whatever adverse developments are reasonably likely to occur. In such cases he will be prepared to see unsatisfactory earnings for the issue during depression periods, but he will expect that the company’s financial strength will carry it unharmed through such a setback and its average earnings will be enough to justify fully the stock purchase. He may emphasize the factor of inherent stability. Here the nature of the industry or the company is supposedly such as to immunize it in a large measure from the recurrent adversity that befalls most enterprises. Stability of this kind is possessed by nearly all public utility groups, well established chain-stores, by certain makes of trademarked goods for public consumption. He may give considerable weight to the future prospects themselves and he should favor companies which his study and judgment tell him have better than average expectations. He will value such concerns more liberally than others. But he must be aware of carrying such liberality to the point of enthusiasm, for at that point he loses the sober moderation that distinguishes the investment approach from the speculative one. The security analyst is on safest ground when he treats favorable expectations as an added reason for a purchase which would not be unsound if based on the past record and the present situation.
Security analysis objectives:
Security analysis refers to the analysis of trading securities from the point of their prices, returns and risks. All investments are risky and the expected return is related to the quantum of risk. All investors try to earn more return with low level of risk or without risk. For this purpose they are considering some objectives. These are:
Ø Regular income – the income from the investment should be regular and consistent one. The high fluctuation is income stream is not suitable for the long-term growth.
Ø Capital appreciation – the investment must yield regular income as well as growth in value i.e, capital appreciation. It is the difference between the selling price and purchase price.
Ø Safety of capital – the capital invested in assets requires the safety. Safety is the important element which protects the loss of capital and return from the investments.
Ø Liquidity – liquidity is the ease of convertibility or marketability of assets.
Ø Hedge against Inflation – the inflation is the biggest problem we are facing today, hence the rate of return from the investment requires high yield to beat inflation rate.
These are the major objectives of an investor; to attain these objectives a careful and critical security analysis is necessary. The literature on security analysis can be consolidated to form three approaches to explaining the behavior of share prices and their valuation. These analysis are used to find out the answer for the question like, why share prices fluctuate, how they are determined, what to buy or sell and when to buy or sell.
Fundamental analysis relates to an examination of the intrinsic worth of the company, to find out whether current market price is fair, overpriced or under priced. Intrinsic worth is the real worth of the company share price; it is calculated dividing the net assets by number of equity shares outstanding. Hence fundamentalists attempt to estimate the intrinsic worth of a share by analyzing the various economic, industry and company related factors. Analysis on fundamental factor is considered necessary while making investment in equity shares.
At any phase in the economy, there are some industries which are mounting while others are declining. The performance of companies will depend among other things upon the state of the industry as a whole and the economy. If the industry is prosperous, the companies, within the industries may also be prosperous although a few may be in a bad shape. The performance of a company depends not only of the industry and of the economy, but more importantly, on its own performance.
It is concerned with macro-economic factors; these factors have much impact on the market price of the shares. These are growth rates of national income and industrial sectors, inflation and interest rate, foreign trade and exchange rates, savings and investment of the public, monsoon and agriculture performance, political stability etc. Hence this factor not only affects a particular script but affect the stock market as whole.
The technical school of thought developed its own theory for determining the behavior of stock prices. The technicians do not believer fundamentalists thoughts. Technical analysis of the market is based n some basic tenets, namely, that all fundamental factors are discounted by the market and are reflected in prices. Secondly, these prices move in trends or waves which can be both upward and downward depending on the sentiment, psychology and emotions of operators or traders. Finally, the present trends are influenced by the past trends and the projection of future trends is possible by an analysis of past price trends. According to the technicians, prices are determined in the following manner.
Prices of securities are determined by the demand and supply of securities in the market. Demand and supply of securities are to be considered the main essence of changes in security prices. The collection of past market data used to find out the history of price movements and depict these on a chart. The chart helps to determine future prices.
Hence, the technical analysis reveals that the past behaviour of stock prices gave an indication about the future of the stocks.
Investment banking is a specific division of banking related to the creation of capital for other companies. Investment banks underwrite new debt and equity securities for all types of corporations. Investment banks also provide guidance to issuers regarding the issue and placement of stock.
In addition to the services listed above, investment banks alsoaid in the sale of securities in some instances
· To know the the strategic gap in the field of investment banking
· Giving our contribution towards the growth and development of investment banking
· Understanding the current and potential client for the investment bank their needs and wants.
· Analysis of future growth and prospects of investment banking
· Finding out the major player of investment banking and the leaders
· To in-depth study of investment banking and corporate finance
· Molding our career in the field of investment banking like financial analyst and associate
· Understanding the required qualification in the field of investment banking
Scope for growth of Investment Banking in India as planning and industrial policy of the country envisaged the setting of up of new industries and technology, greater financial sophistication and financial services are required. There is a well proven link between economic growth and financial technology. Economic development requires specialist financial skills: savings banks tomarshal individual savings; finance companies for consumer lending and mortgage finance; insurance companies for life and property cover; agricultural banks for rural development; and a range of specialized government or government sponsored institutions. As new units have been set up and business is expanding, they require additional financial services. A public equity or debt issue is the logical source of fund in this situation and investment banks can tap this opportunity of growth. The areas of great scope could be:-
Growth of Primary market:
If the primary market grows and number of issues increases, the scope of investment banking will be enhanced.
Entry of Foreign Investors:
Now India capital market directly taps foreign capital through euro issues. FDI is increased in capital market. So investment bankers are required to advice them for their investment in India. The increasing number of joint ventures also requires expert services of investment Bankers. If more and more NRIs participate in capital market, there will be great demand for investment banker services.
Changing policy of Financial Institutions:
Now the lending policies of financial institutions are based on project orientation, so the investment banker services will be needed by corporate enterprise to provide expert guidance.
Development of debt markets:
If the debt market is enhanced, there will be tremendous scope for investment bankers. Now NSE and OTCEI are planned to raise their fund through debt instruments.
Due to liberalization and globalization Companies are facing lot of competition. In order to compete, they have to go for restructuring, merger, acquisitions or disinvestments. They may offer good opportunities to merchant bankers
FACTORS on which GROWTH of INVESTMENT BANKING depends:
1. Planning and industrial policy of the country i.e. India in this case
2. Prevailing Economic condition of the country
3. Regulatory system of the market and economy prevailing in India
4. Confidence of the people, traders, buyers, marketers, business houses, financial institutions etc
5. The economic environment of the outside world.
6. Competition among the existing players and the upcoming entrant
Problem Definition: Strategy Implications in Investment Banking
Type of Research:
1. DESCRIPTIVE RESEARCH
•Surveys & fact-finding enquiries
•Try to discover causes
2. QUALITATIVE RESEARCH
•Involves quality or kind
•Helps in having insight into pro blems or cases
Nature of Data Collected: Only PRIMARY DATA is used. Primary data are those which are collected fresh and for the first time and thus happen to be original character.
Data Collection Method: For the collection of primary data a set of logically sequenced Questionnaire Method was adopted seeing the objective of the research.
ANALYSIS OF SURVEY DATA
Future Trends of Investment banking
Investment banking in India has always been very important for the smooth transactions between investors, corporations and government. These banks have a role to play in the future, regardless of economic conditions in the country.Investment banking firms in general, to help our customers get access to capital through equity, debt funds and other investment products. These companies also trade in equities and derivatives, and also to help businesses to mergers and acquisitions transactions. A few years ago, when the world economy was reeling under recession, many investment banking companies either collapsed or were on the verge of closure.Though some companies in India were affected by this global slowdown. This led to a revival of many of the skeptics write off these companies. Considering what is happening after the economic crash in the United States, even our policy makers may be tempted to bring in some stringent guidelines for investment banking services in India. This may be done with a view to ensure better risk management. Another option which the law makers may think of is tinkering with the claw back option. This will certainly protect the investment companies against fraudulent and unethical traders and companies who might trigger a market crash, thereby causing huge losses. This provision will ensure recovery of their profits. Lastly, banks may be advised to go slow on short term funding in order to reduce mismatch between assets and liabilities.
Challenges Faced by the Investment banking
The markets were expected to have a soft interest rate regime to support the development of the money market and improve liquidity in the system. The regulators across the globe have reduced the short- and long-term interest rates to the record lows as expected.
In fact, in some of the developed countries such as the US and the UK, the rates have been slashed more than expected. In our country, the bank rate has been reduced from 7 per cent to 6 per cent, the cash reserve ratio from 7.50 per cent to 5 per cent, and the reverse repo rateto 3.25 per cent. Investment banks expected stringent guidelines on risk management, especially in counterparty, group/sector investment exposures other than general credit and market risks.
Mark-to-market pricing of illiquid assets was a big challenge. Regulators introduced FIMMDA (Fixed Income Money Market and Derivatives Association of India) valuations and third-party valuations such as CRISIL to help the market in fair price valuations. The introduction of Basel II norms helped banks in undertaking better risk management practices.
Compliance with KYC (know your customer) norms, and the challenges in monitoring AML (anti-money laundering) regulations were posing bigger challenges.
The regulatory move of making PAN (permanent account number) compulsory, and the introduction of Mapin (Market Participants and Investors Number) by SEBI (Securities and Exchange Board of India) helped banks adhere better to compliance standards and reduced the challenges in aggregation of investment data of their customers.
Similarly the introduction of MiFID (Markets in Financial Instruments Directive) in the European Union with the objective of best execution strategies, compliance and reporting norms paved the way to reach global customers with multiple products.
The move from regulated, segmented national financial markets to a single global capital market has been gradual. The big drivers of growth in the past ten years have been deregulation, the impact of technology, and the innovation of new concepts such as trading in commodities, carbon and securitisation. The markets have undergone unprecedented changes in the last few years and business models are constantly under pressure to reinvent themselves as new technology, regulations, and customer requirements combine together to reinvent the industry. Over the past 10 years, we've seen transformative power in how investments in IT (information technology) innovations foster economic growth.
Is the recession over? Some say that it is V-shaped and some predict it is W-shaped. But what determined the length and severity of the recession is the way the governments responded to restore confidence among consumers, companies, investors, and lenders.
The major challenge today for both buy-side and sell-side institutions is how to meet their clients' expectations, especially on client reporting. The market participants have learnt a lesson from this difficult period, and are considering how to re-establish the confidence and how to make use of the technology at its best.
A few years ago many were outsourcing client reporting function; this has now reversed itself and more investment banks have preferred to retain this function and are enhancing their in-house capabilities.
There is more emphasis on pre-trade analytics today because of the increase in electronic trading which has introduced more technology into decision-making and execution process.
Today, users expect pre-trade analytics to do a lot more than just identify problem stocks. They want the analytics to support portfolio optimisation, rebalancing, credit risk analysis, interest rate analysis, cash flow forecasting, compliance monitoring, and more.
What bankers should be looking at the moment with their risk management procedures is not just looking at past conditions to predict the future, as this has not proved reliable.
All financial firms have to some extent now realised the importance of meeting tougher liquidity standards. Stress and scenario testing, especially for liquidity risk, has become now both a regulatory obligation as well a key fund management tool.
Going forward in 2011
The behaviour of interest rates is a central issue in the current economic outlook. The current low level of long-term interest rates is contributing to a very favourable global financial environment.
Despite the increase in inflation during recent weeks across the globe, interest rates remain low for this stage of the business cycle. The stronger-than-expected recoveries are likely to point to a rise in interest rates in the first quarter of 2010 to curb potential inflationary pressures; and the strengthening consumption and improving exports will herald an up-tick in inflation next year.
There won't be any surprise if the regulators opt for over-regulation especially in regulatory reporting to protect the industry from the lessons learnt during the recession.
On the technology front, the large investment banks especially are facing challenges on integrating different technology systems inherited through earlier acquisitions. Many of them have already decided, or are in the process of deciding, to integrate all such systems to make them work together and standardise some processes under a common platform.
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