chapter 2 investment aveneus available in...

“A study of Awareness, Opportuni t ies & Problems for Retai l

Investors with Reference to Mutual Funds In Gujara t Sta te” G a n p a t U n i v e r s i t y

14 I n v e s t m e n t A v e n u e s A v a i l a b l e i n I n d i a

CHAPTER – 2

INVESTMENT AVENEUS AVAILABLE IN INDIA

Sr. No. Content Page No.

2.1 Introduction 16

2.2 Financial System 17

2.2.1 Financial Institutions 18

2.2.2 Financial Markets 18

2.2.3 Financial Services 19

2.2.4 Financial Instruments/Avenues 19

2.3 Investment Avenues 20

2.3.1 Security Form 21

2.3.1.1 Money Market Securities 21

2.3.1.2 Capital Market Securities 27

2.3.2 Non – Security Form 34

2.3.2.1 Bank Deposits 34

2.3.2.2 Post Office Deposits 38

2.3.2.3 Public Provident Fund 39

2.3.2.4 Employee Provident Fund 42

2.3.2.5 Insurance Schemes 43

2.3.2.6 Mutual Funds 48

2.3.2.7 Commodity Investment 50

2.3.2.8 FOREX Market 56

2.3.3 Traditional Form 63

2.3.3.1 Real Estate 63




2.3.3.2 Gold & Silver Investment 67

2.3.4 Emerging Investment Avenues 72

2.3.4.1 Hedge Funds 72

2.3.4.2 Venture Capital 76

2.3.4.3 Chit Fund 79

2.3.4.4 Depository Receipts 81

2.4 Rationale for Mutual Funds 85




2.1 Introduction

Financial system plays vital role in the economic growth of a country. It intermediates

between the flow of funds belonging to those who save a part of their income and

those who invest in productive assets. It mobilizes and usefully allocates scare

resources of a country. It is a complex, well-integrated set of subsystems of financial

institutions, markets, instruments, and services which facilitates the transfer and

allocation of funds, efficiently and effectively. The financial systems of most

developing countries are characterized by coexistence and cooperation between the

formal and informal financial sectors. The coexistence of these two sectors is

commonly referred to as financial dualism. The formal financial sector is

characterized by the presence of an organized, institutional and regulated system

which caters to the financial needs of the modern spheres of economy. The informal

financial sector has emerged as a result of the intrinsic dualism of economic and

social structures in developing countries, and financial repression which inhibits the

certain deprived sections of society from accessing funds. One of the important

functions of a financial system is to link the savers and investors and, thereby, help in

mobilizing and allocating the saving efficiently and effectively. By acting as an

efficient conduit for allocation of resources, it permits continuous up-gradation of

technologies for promoting growth on a sustained basis. A financial system not only

helps in selecting project to be funded but also inspires the operators to monitor the

performance of the investment. Financial markets and institutions help to monitor

corporate performance and exercise corporate control through the threat of hostile

takeovers for underperforming firms. It provides a payment mechanism for the

exchange of goods and services and transfers economic resources through time and

across geographic regions and industries.

One of the most important functions of a financial system is to achieve optimum

allocation of risk bearing. It limits, pools and trades the risk involved in mobilizing

saving and allocating credit. An efficient financial system aims at containing risk

within acceptable limits. It reduces risk by laying down rules governing the operation

of the system. Risk reduction is achieved by holding diversified portfolios and

screening of borrowers. Market participants gain protection from unexpected losses

by buying financial insurance services. Risk is traded in the financial markets through




financial instruments such as derivatives. Derivatives are risk shifting devise, they

shift risk from those who have it but may not want it to those who are willing to take

it.

The Indian financial system can broadly be classified into the formal/organized and

informal/unorganized system. The formal financial system comes under the purview

of the Ministry of Finance (MOF), Reserve Bank of India (RBI), Security and

Exchange Board of India (SEBI), and other regulatory bodies. The informal financial

system consists of:

i. Individual moneylenders such as neighbors, relatives, landlords, traders and

storeowners.

ii. Groups of person operating as funds or associations. These groups function under

a system of their own rules and use names such as fixed fund, association and

saving club.

iii. Partnership firms consisting of local brokers, pawnbrokers and non-bank financial

intermediaries such as finance, investment and chit fund companies.

2.2 Financial System

Figure – 2.1 – Financial System of India

Financial

System

Financial Market

Primary

Secondary

Capital Market Money Market

Organised Unorganised

Financial

Instruments

Long Term

Short Term

Medium Term

Primary Secondary

Financial Institutions

Interdediary NonIntermediary

Others

Regulatory

Banking Non-Banking

Financial Services




2.2.1 Financial Institutions

Financial institutions are intermediaries that mobilize savings and facilitate the

allocation of funds in an efficient manner. Financial institutions can be classified as

banking and nonbanking financial institutions. Banking institutions are creators and

purveyors of credit while non-banking financial institutions are purveyors of credit.

Financial institutions can also be classified as term finance institutions such as the

Industrial Development Bank of India (IDBI), the Industrial Credit and Investment

Corporation of India (ICICI), the Industrial Financial Corporation of India (IFCI), the

Small Industries Development Bank of India (SIDBI) and the Industrial Investment

Bank of India (IIBI). In the post reforms era, the role and nature of activity of these

financial institutions have undergone a tremendous change. Banks have now

undertaken non-bank activities and financial institutions have taken up banking

functions. Most of the financial institutions now resort to financial markets for raising

funds.

2.2.2 Financial Markets

Financial markets are a mechanism enabling participants to deal in financial claims.

The market also provides a facility in which their demands and requirements interact

to set a price of such claims. The main organized financial markets in India are the

money market and the capital market. The first is a market for short term securities

while the second is a market for long term securities. Financial market can also be

classified as primary and secondary markets. While the primary market deals with

new issues, the secondary market is meant for trading in outstanding or existing

securities. There are two components of the secondary market: over-the-counter

(OTC) market and the exchange traded market. The government security market is an

OTC market. In OTC market, spot trades are negotiated and traded for immediate

delivery and payment, while in the exchange traded market, trading takes place over a

trading cycle in stock exchanges. Recently, the derivatives market (exchange traded)

has come into existence.




2.2.3 Financial Services

Financial services are those that help with borrowing and funding, lending and

investing, buying and selling securities, making and enabling payment and

settlements, and managing risk exposures in financial markets. The major categories

of financial services are funds intermediation, payments mechanism, provision of

liquidity, risk management and financial engineering. The producers of these financial

services are financial intermediaries, such as banks, insurance companies, mutual

funds and stock exchanges. Financial intermediaries provide key financial services

such as merchant banking, leasing, hire purchase and credit rating. Financial services

rendered by the financial intermediaries‟ bridge the gap between lack of knowledge

on the part of investors and the increasing sophistication of financial instrument and

markets. These financial services are vital for creation of firms, industrial expansion

and economic growth.

2.2.4 Financial Instruments / Avenues

A financial instrument is a claim against a person or an institution for payment, at a

future date, of a sum of money or a periodic payment in the form of interest or

dividend. A financial instrument represents paper wealth such as shares, debentures,

bonds, notes etc,. Different types of financial instruments can be designed to suit the

risk and return preferences of different classes of investors. Savings and investments

are linked through a wide variety of complex financial instruments known as

„securities‟. Financial securities are financial instruments that are negotiable and

tradable. Financial securities may be of primary and secondary securities. Primary

securities are also termed as direct securities as they are directly issued by the ultimate

borrowers of funds to the ultimate savers. Secondary securities are also referred to as

indirect securities, as they are issued by the financial intermediaries to the ultimate

savers. Bank deposits, mutual funds units and insurance policies are secondary

securities. Financial instruments differ in terms of marketability, liquidity,

reversibility, type of options, return, risk and transaction costs. Financial instruments

help financial markets and financial intermediaries to perform the important role of

channelizing funds from lender to borrowers. Financial Instruments are also known as

investment avenues.




2.3 Investment Avenues

By Investment Avenue we mean a particular organization or system in which an

investor can place his surplus funds with the objectives of having certain gains in the

future. This organization may be well organized like a bank, financial institution,

mutual funds and company or in an unorganized manner like chit fund organization,

Nidhis (a type of non-banking finance company) or curry (a type of non-banking

finance company in southern India). Different investment avenues have different

features; few offer a fixed return and certain others offer stock market based returns

and yet certain others offer a mix of these two. Few of these have an element of safety

and yet others do not have any kind of safety. In certain cases these are in negotiable

form and in other cases these are non-negotiable. Investment avenues of a country are

subject to different rules and regulations of either the government or some apex body

like Reserve Bank of India, NABARD, SEBI or Companies Act. Following are the

features of investment avenues.

A place where one can invest his surplus

Fixed or floating return

Security vs. Non-security form

Investment accepting organization might have an obligation or not

Negotiable vs. Non-negotiable

Risk is the inherent part of every avenue

May be in an organized form or unorganized form

Regulation

Market oriented vs. others

Investment avenues can be broadly divided into following types.

Security form

Non-security form

Traditional form

Other emerging avenues




2.3.1 Security Forms

These are the instruments or securities through which a company or issuing authority

like government raises finance. Majority of these are in negotiable form, i.e. these are

sellable in the market by the holder of the securities. Companies/Government issues

these in capital market or money market to raise funds directly from the providers of

the funds. Some of these have maturity for a very long period and others have for

either medium term or short term. Security form can further be divided into money

market securities and capital market securities.

2.3.1.1 Money Market Securities

It is the market in which liquid funds as well highly liquid securities are traded in for

a very shorter duration. The main participants in this market are banks and financial

institutions. The banks deal in this market to fulfill their CRR (Cash Reserve Ratio)

and SLR (Statutory Liquidity Ratio) requirements. However, few corporate houses,

insurance companies, mutual funds, provident funds trusts and non-banking finance

companies also play an active role in this market. This market provides liquidity

support to banking system. At the same time, the central bank of the country –

Reserve bank of India- uses this market to exercise monetary control in the economy

and credit control in the county.

Money market can be divided into two parts, call money market and government

securities/gilt-edged securities market. Call money market in which surplus cash of

banks and corporate houses is traded in for a very short maturity period, generally not

exceeding one fortnight. The main transactions are carried on by banks to fulfill their

liquidity, as well as CRR requirements. The main participants in market are banks,

financial institution, mutual funds, corporate houses and other organizations as

allowed by Reserve bank of India from time to time. Banks are allowed to play the

role of both the seller as well as the buyer of funds. A seller of funds is the one who

provides it to another party and the party receiving it is identified as the buyer of the

funds. For making funds available, the seller charges interest, which is decided

mutually.




The charges in a call money market are influenced by the demand and supply of

money available in this market. Call rates fluctuate very frequently due to the volatile

nature of this market. The provider of funds can call back his money at a short notice;

which is why it is called call money market. The market for government securities is

known as gilt-edged securities market. Government securities are either issued by the

central government or state government or any of the agencies of these governments.

The government guarantees payment of interest and repayment of the principal

amount in gilt-edged securities. Developed banks and financial institutions trade in

this market to fulfill their SLR (Statutory Liquidity Ratio) requirement. The feature of

safety and liquidity in these securities is as safe as good as that of gold; hence, these

are called as gilt-edged securities. Following are the main instruments in this market.

2.3.1.1.a - Treasury Bills

Treasury bills are very useful instruments to deploy short term surplus depending

upon the availability and requirement. Even funds which are kept in current accounts

can be deployed in treasury bills to maximize returns. These treasury bills have a

maturity period not exceeding 364 days. These bills do not carry any interest rate;

instead these are issued at a discount to face value, and redeemed at par on the

maturity. Treasury bills have a unique maturity period of 91 days, 182 days, and 364

days. Recently RBI issued treasure bills for a maturity of 14 days and 28 days too.

Banks do not pay any interest on fixed deposits of less than 15 days, or balances

maintained in current accounts, whereas treasury bills can be purchased for any

number of days depending on the requirements. This helps in deployment of idle

funds for very short periods as well.

Further, since every week there is a treasury bills auction, investor can purchase

treasury bills of different maturities as per requirements so as to match with the

respective outflow of funds. Treasury bills are of two types, regular treasure bills

issued to the general public, including banks, financial institutions and corporate

houses through a notification by RBI. Ad-hoc treasure bills are issued in the favour of

RBI, and these bills never issued or sold subsequently to anyone in the secondary

market. Nowadays RBI issues only regular treasure bills; ad-hoc treasure bills are not

issued. At times when the liquidity in the economy is tight, the returns on treasury




bills are much higher as compared to bank deposits even for longer term. Another

important advantages of treasury bills over bank deposit are that the surplus cash can

be invested depending upon the staggered requirements.

Advantage of treasury bills includes; no tax deducted at source, zero default risk being

sovereign paper, highly liquid money market instrument, better return especially in

the short term, transparency, simplified settlement, high degree of tradability and

active secondary market facilitate meeting unplanned fund requirements. Limitations

of treasury bills includes restrictions and penalties associated with redeeming treasure

bonds too early, depending on the type of bond the rate of return may not exceed the

average annual inflation rate of 3 percent thus mitigating the interest gains.

2.3.1.1.b - Certificate of Deposits

Certificate of deposits are offered to investors by banks just like normal deposits. But

the difference is certificate of deposits are short term wholesale deposits and they are

tradable. An investor holding the certificate of deposit can sell it to another investor.

Because of liquidity interest rates on certificate of deposits are normally less than that

on „sight‟ deposits, investor can compare certificate of deposits with treasury bills as

they are short term, tradable, discounted bonds. But the difference is treasure bills are

issued by government and certificates of deposits are issued by banks, financial

institutions etc. The lender of a certificate of deposits could be another bank,

corporate or financial institution. Certificates of deposits are rated by approved rating

agencies (e.g. CARE, ICRA, CRISIL, and FITCH) which considerably enhance their

tradability in the secondary market, depending upon demand.

The term of certificate of deposit is fixed and it is usually 3 months, 6 months, 1 year

or 5 years. In India certificate of deposits are introduced in July 1989. Maturity period

is minimum 7 days and maximum 12 months for certificate of deposits issued by

banks. For certificate of deposits issued by financial institutions, maturity is minimum

1 year and maximum 3 years. Minimum amount to invest in a certificate of deposit is

Rs. 100000 and in the multiples of Rs. 100000 thereafter. Loan against collateral of

certificate of deposit is not permitted but it is possible in „sight fixed deposits.

Premature withdrawal is not allowed but can be sold to other investors. Interest rate




can be fixed or floating and they are issued at a discount to face value like zero

coupon bonds.

Advantages of certificate of deposits

Since one can know the returns from inception, the certificates of deposits are

considered much safe.

One can earn more as compared to depositing money in savings account.

The central insurance corporation guarantees the investments in the certificate of

deposit.

Disadvantages of Certificate of deposits

As compared to other investments the return is less.

Money is tied along with the long maturity period of the certificate of deposit.

Huge penalties are paid if one gets out of it before maturity.

2.3.1.1.c - Commercial Paper

Commercial paper is short-term loan that is issued by a corporation for financing

accounts receivable and inventories. Commercial papers have higher denominations

as compared to the treasury bills and the certificate of deposit. The maturity period of

commercial papers is minimum 15 days to maximum of one year. Commercial papers

do not carry any interest rate; instead these are issued at a discount to face value and

redeemed at par on maturity. The difference between issue price and maturity value is

the interest compensation for the buyer of commercial papers. These are negotiable in

nature – these can easily and freely be transferred from one party to another party.

They are very safe since the financial situation of the corporation can be anticipated

over a few months.

Commercial paper is a money market security sold by banks and corporations.

Commercial paper is a low-cost alternative to bank loans. It is a very safe investment

and can be used for inventory purchases or working capital. Use of commercial paper

can efficiently raise large amounts of funds quickly and without expensive

registration by selling paper, either directly or through independent dealers, to a large

and varied pool of institutional buyers. Competitive, market-determined yields in




notes, whose maturity and amounts can be tailored to specific needs, can be earned by

investing in commercial paper. The essential quality of this type of investment is

short-term maturity typically three to six months, an automatic or self-liquidating

nature, and non-speculativeness in origin and purpose of use. The two main methods

of issuing commercial paper are selling them directly to an investor, or selling them to

a dealer who then sells them in the market.

Commercial paper is issued by large creditworthy borrowers, which means it's

typically less risky than some other investments. Also, the rating provided by credit

rating agencies gives an indication to investors about how risky the investment is,

which helps them better gauge the investment. As a tradeoff for the relative safety of

this investment, it yields a lower rate than riskier investments, such as stocks. Another

advantage is that commercial paper issuers usually can't buy back the paper before its

due date without a penalty. This means they can't buy back the paper before its

maturity without compensating the investor for the early purchase. Investors can thus

count on a steady yield from commercial paper, unlike in the case of certain bonds

that investors can retire before their maturity.

These funds also charge management fees and expenses, for giving the convenience

of investing in market-rate, short-term, fixed-income securities. Therefore, investor

could obtain slightly higher yields on their money if they invest in commercial paper

directly. However this is not a very liquid investment and there is no active secondary

market, this makes it difficult for the investor to sell off the commercial paper before

its scheduled maturity date.

2.3.1.1.d - Dated Securities of Government

Government securities are issued by the government for raising a public loan or as

notified in the official gazette. They consist of government promissory notes, bearer

bonds, stocks or bonds held in bond ledger account etc. They may be in the form of

treasury bills or dated government securities. Government securities are mostly

interest bearing dated securities issued by RBI on behalf of the government of India.

Government of India uses these funds to meet its expenditure commitments. These

securities are generally fixed maturity and fixed coupon securities carrying semi-




annual coupon. Since the date of maturity is specified in the securities, these are

known as dated government securities.

The dated government securities market in India has two segments; primary market

consists of the issuers of the securities, viz., central and state government and buyers

include commercial banks, primary dealers, financial institutions, insurance

companies & co-operative banks. RBI also has a scheme of non-competitive bidding

for small investors. Secondary market includes commercial banks, financial

institutions, insurance companies, provident funds, trusts, mutual funds, primary

dealers and reserve bank of India. Even corporate and individuals can invest in

government securities. The eligibility criteria are specified in the relative government

notification. Following are the main features of government securities.

i. Issued at face value.

ii. No default risk as the securities carry sovereign guarantee.

iii. Ample liquidity as the investor can sell the security in the secondary market.

iv. Interest payment on a half yearly basis on face value.

v. No tax deducted at source.

vi. Can be held in dematerialized form.

vii. Rate of interest and tenure of the security is fixed at the time of issuance and is

not subject to change.

viii. Redeemed at face value on maturity

ix. Maturity ranges from of 2-30 years.

Auctions for government securities are normally multiple-price auctions either yield

based or price based. In yield based type of auction, RBI announces the issue size or

notified amount and the tenure of the paper to be auctioned. The bidders submit bids

in term of the yield at which they are ready to buy the security. If the bid is more than

the cut-off yield then its rejected otherwise it is accepted where in price based type of

auction RBI announces the issue size or notified amount and the tenure of the paper to

be auctioned, as well as the coupon rate. The bidders submit bids in terms of the price.

This method of auction is normally used in case of reissue of existing government




securities. Bids at price lower than the cut off price are rejected and bids higher than

the cut off price are accepted. Price based auction leads to a better price discovery

then the yield based auction. Government securities, state development loans &

treasury bills are regularly sold by RBI through periodic public auctions. It gives

investors an opportunity to buy government securities/treasure bills at primary market

auctions of RBI through its invest scheme. Investors may also invest in high yielding

government securities through buy and sell facility for selected liquid scripts in the

secondary markets.

2.3.1.2 - Capital Market Securities

The capital market is a market for financial assets which have a long or indefinite

maturity. Unlike money market instruments the capital market instruments become

mature for the period above one year. It is an institutional arrangement to borrow and

lend money for a longer period of time. It consists of financial institutions like IDBI,

ICICI, UTI, LIC, etc. These institutions play the role of lenders in the capital market.

Business units and corporate are the borrowers in the capital market. Capital market

involves various instruments which can be used for financial transactions. Capital

market provides long term debt and equity finance for the government and the

corporate sector. Capital market can be classified into primary and secondary markets.

The primary market is a market for new shares, where as in the secondary market the

existing securities are traded. Capital market institutions provide rupee loans, foreign

exchange loans, consultancy services and underwriting. Capital market securities

issued by the companies in the primary market to raise the finance. Issue of the

securities is completely regulated by the provisions of SEBI. A company can issue the

following securities in this market.

Equity shares

Preference shares

Debentures




2.3.1.2.a - Equity Shares

Equity is the term commonly used to describe the ordinary share capital of a business.

Ordinary shares in the equity capital of a business entitle the holders to all distributed

profits after the holders of debentures and preference shares have been paid. Ordinary

shares are issued to the owners of a company. The ordinary shares of Indian

companies typically have a nominal or 'face' value between rupees 10 to 100.

However, it is important to understand that the market value of a company's shares

has little relationship to their nominal or face value. The market value of a company's

shares is determined by the price another investor is prepared to pay for them. In case

of publicly quoted companies, this is reflected in the market value of the ordinary

shares traded on the stock exchange. In case of privately owned companies, where

there is unlikely to be much trading in shares, market value is often determined when

the business is sold or when a minority shareholding is valued for taxation purposes.

"Deferred ordinary shares" are a form of ordinary shares, which are entitled to a

dividend only after a certain date or only if profits rise above a certain amount. Voting

rights might also differ from those attached to other ordinary shares. An equity holder

become the owner of the company and enjoys voting rights also. Besides capital

appreciation, he is entitled to get dividend also. Equity shares are listed on stock

market and can easily converted into cash whenever required. But equity investments

are the most risky form of investment where there are chances of going money into

100 percent loss. Besides, investors will get his money back when all the parties have

been paid their dues to company at the time of liquidation.

2.3.1.2.b - Preference Shares

A preference shares means shares which carries preferential rights in respect of

dividend at fixed amount or at fixed rate before the holders of the equity shares have

been paid. It also carries preferential right in regard to payment of capital on winding

up or otherwise. It means the amount paid on preference share must be paid back to

preference shareholders before anything in paid to the equity shareholders. In other

words, preference share capital has priority both in repayment of dividend as well as

capital. Following are the main types of preference shares.




2.3.1.2.b-i - Cumulative and Non – Cumulative Preference Shares

A non-cumulative or simple preference shares gives right to fixed percentage

dividend of profit of each year. In case no dividend thereon is declared in any year

because of absence of profit, the holders of preference shares get nothing nor can they

claim unpaid dividend in the subsequent year or years in respect of that year.

Cumulative preference shares however give the right to the preference shareholders to

demand the unpaid dividend in any year during the subsequent year or years when the

profits are available for distribution. In this case dividends which are not paid in any

year are accumulated and are paid out when the profits are available.

2.3.1.2.b-ii - Redeemable and Non- Redeemable Preference Shares

Redeemable Preference shares are preference shares which have to be repaid by the

company after the term for which the preference shares have been issued.

Irredeemable preference shares means preference shares need not to repay by the

company except on winding up of the company. However, under the Indian

companies act, a company cannot issue irredeemable preference shares. In fact, a

company limited by shares cannot issue preference shares which are redeemable after

or more than 10 years from the date of issue. In other words the maximum tenure of

preference shares is 10 years. If a company is unable to redeem any preference shares

within the specified period, it may, with consent of the company law board, issue

further redeemable preference shares equal to redeem the old preference shares

including dividend thereon. A company can issue the preference shares which from

the very beginning are redeemable on a fixed date or after certain period of time not

exceeding 10 years.

2.3.1.2.b-iii - Participating and Non - Participating Preference Shares

Participating preference shares are entitled to a preferential dividend at a fixed rate

with the right to participate further in the profits either along with or after payment of

certain rate of dividend on equity shares. A non-participating share is one which does

not such right to participate in the profits of the company after the dividend and

capital has been paid to the preference shareholders.




2.3.1.2.b-iv - Convertible and Non - Convertible Preference Shares

Convertible preference shares are the one which have a provision of conversion into

the equity shares of the issuing company; the conversion takes place on pre-specified

date. The terms and conditions of conversion are specified at the time of issue of these

shares. Holders of these have the benefit of preference shares till the date of

conversion, thereafter these have the benefits of equity shares, due to this dual nature

these are called hybrid securities. Non-convertible preference shares are those in

which a provision of conversion into the equity shares of the issuing company is not

provided, these might be redeemable or irredeemable, redemption, if any, take place

according to the terms and conditions of the issue of these preference shares. For the

investor, preference shares are less attractive than loan stock because they cannot be

secured on the company's assets, the dividend yield traditionally offered on preference

dividends has been too low to provide an attractive investment compared with the

interest yields on loan stock in view of the additional risk involved.

2.3.1.2.c - Debentures and Bonds

Debentures and bonds are similar except for one difference that bonds are more

secure than debentures. In case of both, investors are paid a guaranteed interest that

does not change in value irrespective of the fortunes of the company. However, bonds

are more secure than debentures, but carry a lower interest rate. The company

provides collateral for the loan. Moreover, in case of liquidation, bond holders will be

paid off before debenture holders. In India, the terms „corporate bonds‟ and

„debentures‟ are interchangeably used. Though different countries have different

interpretations of both the terms „corporate bonds‟ and „debentures‟, our companies

act (section 2(12)) identifies both as same. Investor may find a corporate bond similar

to a fixed deposit in a bank or a post office scheme or any such fixed‐return

instrument. However, every type of investment is different in its own way and has its

own features, advantages and disadvantages.

In India, both public and private companies can issue corporate bonds. A company

incorporated in India, but part of a multinational group, can also issue corporate

bonds. However, a company incorporated outside India cannot issue corporate bonds

in India. A statutory corporation like LIC can also issue corporate bonds. For




investors those who are looking for an investment that generates fixed income

periodically, corporate bonds may be an ideal investment. It normally offers a higher

rate of interest as compared to fixed deposits or postal savings or similar investments.

Listed bonds can also sell in the secondary market before its maturity. While a bond is

usually not designed for capital appreciation; a listed bond may also earn capital

appreciation i.e. investor can sell bond at a price higher than cost price in the market.

A corporate bond may offer a fixed or floating rate of interest and accordingly

investor may earn a fixed or varying amount of interest periodically. A fixed rate

bond will pay fixed amount periodically as per the interest rate set out when the bonds

were issued. This interest is determined as a percent of the face value of the bond.

Such fixed interest payments are sometimes also called coupon payments. A floating

rate bond has its interest rate pegged to a benchmark rate i.e. (Benchmark rate) +/‐

(some percent). The benchmark rate may be government bond/MIBOR. As the

benchmark rate changes, the interest rate on the bond will vary accordingly. Hence, a

floating rate bond is considered to be relatively risky since return is dependent on the

movement of the benchmark rate. If investor wish to receive fixed amount

periodically, a fixed rate bond is advisable. However, a fixed interest rate bond may

earn less than a floating rate bond due to lesser risk involved. If investor plans to

invest in a floating rate bond, return will depend on the movement of benchmark rate

which may move in either direction substantially.

An investor in corporate bonds receives his interest payments periodically. The

interest may be received yearly or half yearly or quarterly or even monthly depending

upon the period set at the time of issue. The interest payment dates are usually

specified in the prospectus. On the maturity date, the issuer pays back the investor

face value of the bonds held by him along with the interest accrued on the same.




Figure – 2.2 – Types of Debentures / Bonds

2.3.1.2.c-i - From the Security Point of View

Secured debentures refer to those debentures where a charge is created on the assets

of the company for the purpose of payment in case of default. The charge may be

fixed or floating. A fixed charge is created on a specific asset whereas a floating

charge is on the general assets of the company. The fixed charge is created against

those assets which are held by a company for use in operations not meant for sale

whereas floating charge involves all assets excluding those assigned to the secured

creditors. Unsecured debentures do not have a specific a charge on the assets of the

company. However, a floating charge may be created on these debentures by default.

Normally, these kinds of debentures are not issued.

Types of Debentures / Bond

Security Secured Unsecured

secured

Tenure

Redeemable

Irredeemable/ Perpetual

Convertibility

Convertible

Fully Convertible

Partly Convertible

Non Convertible

Coupon Rate

Zero Coupon Rate

Specific

Rate

Registration

Registerd

Bearer




2.3.1.2.c-ii - From the Tenure Point of View

Redeemable debentures are those which are payable on the expiry of the specific

period either in lump sum or in installments during the life time of the company.

Debentures can be redeemed either at par or at premium. Irredeemable debentures are

also known as perpetual debentures because the company does not given any

undertaking for the repayment of money borrowed by issuing such debentures. These

debentures are repayable on the on winding-up of a company or on the expiry of a

long period.

2.3.1.2.c-iii - From the Convertibility Point of View

Debentures which are convertible into equity shares or in any other security either at

the option of the company or the debenture holders are called convertible debentures.

These debentures are either fully convertible or partly convertible. The debentures

which cannot be converted into shares or in any other securities are called

nonconvertible debentures. Most debentures issued by companies fall in this category.

2.3.1.2.c-iv - From Coupon Rate Point of View

These debentures are issued with a specified rate of interest, which is called the

coupon rate. The specified rate may either be fixed or floating. The floating interest

rate is usually tagged with the bank rate. These debentures do not carry a specific rate

of interest. In order to compensate the investors, such debentures are issued at

substantial discount and the difference between the nominal value and the issue price

is treated as the amount of interest related to the duration of the debentures.

2.3.1.2.c-v - From the Registration Point of View

Registered debentures are those debentures in respect of which all details including

names, addresses and particulars of holding of the debenture holders are entered in a

register kept by the company. Such debentures can be transferred only by executing a

regular transfer deed. Bearer debentures are the debentures which can be transferred

by way of delivery and the company does not keep any record of the debenture

holders. Interest on debentures is paid to a person who produces the interest coupon

attached to such debentures.




2.3.2 Non - Security Form

These are the avenues of investment in which document issued as evidence of the

investment cannot be transferred from one party to another party. These are non-

negotiable in form. The payment of these can be claimed by only the original holder

or in the event of death of the original holder his legal successors can claim the

payment. The prominent feature of these avenues that the majority of these are safe

investments. By safe we mean free from default risk. However due to privatization of

banking and insurance sector there has been the incidences that even the bank are in

trouble sometimes and investment in a bank might be subject to default risk like in a

co-operative bank or certain low creditworthy banks. By default risk we mean

chances of early in the payment or repayment it may be even the non-payment of

dues. Following is included in this category:

Bank Deposits

Post Office Deposits

Public Provident Fund Account

Employee Provident Fund Account

Insurance Investment

Mutual Funds Investment

Commodity Investment

FOREX Investment

2.3.2.1 Bank Deposits

An investor who has safety as the first objective can choose bank as an avenue for

investment. Banks are considered to be safe i.e. these assure a fix return in the form of

interest payment and also there is no default risk. Investors can deposit his savings in

a bank as per their convenience by maintaining different accounts. In general

following type of deposits can be held by an investor in a bank.

Savings Bank Account

Current Account

Cash and Credit Account

Self-Liquidating FDR

Recurring Deposit Account / Scheme




Flexi Deposit Account / Scheme

Fixed Deposit Receipt (FDR)

2.3.2.1.a - Savings Bank Account

In a savings bank account, account holder has the option to deposit his small savings

with the aim to have safety and interest income on such deposit. Investor has the

convenience of withdrawal of his money through different mechanisms like by

cheque, by withdrawal slip, through ATM card, etc. Bank offers anywhere banking

which offers operation of the bank account for deposit and withdrawal from anywhere

across the country at the designated branches. In a saving bank account one can have

limited number of transactions in each month and it has the restrictions that frequent

transactions cannot be made in this account. Although banks have a norm for

maintaining minimum balance in the savings bank account, yet there are the banks

which offer zero balance savings bank account. The main reason people use banks to

hold their money isn't because of the lucrative returns from interest rates - it is

because the bricks, sensors and a tempered steel safe convey a sense of security that a

sock drawer can't match.

2.3.2.1.b - Current Account

Current account is mainly opened by the businessman or business houses. In a current

account frequent transaction are allowed and one can have the facility of overdraft.

Overdraft is a facility provided by the bank only on a current account whereby

account holder can withdraw the amount over and above his deposit. On this extra

withdrawal, bank charges interest as per rules and regulation of the bank. Overdraft

facility can be utilized only when it has been sanctioned by the bank in advance. For

the deposited amount in a current account few banks do not give any interest whereas

few offer a nominal interest. Withdrawal from this account can be made by cheque,

debit card or credit card.




2.3.2.1.c - Cash & Credit Account

A cash credit account is the account which allows the account holder a credit facility

against the security of certain fixed deposit or some other assets of the business like

stock, building etc. This account is opened after entering into an agreement with the

bank whereby bank sanctions a cash credit limit, the account holder has the

convenience of using the sanctioned amount as per his requirement from time to time

within the overall time limit of the cash credit account. Interest is charged on the

amount which is utilized by the account holder and not on the sanctioned amount.

Few banks charge nominal commitment charge/interest for the amount sanctioned but

not utilized. If this account is opened against the security of stock-in-trade then the

account holder is required to provide the details of the stock-in-trade at a regular

interval. Withdrawal can be made by cheque.

2.3.2.1.d - Self-Liquidating FDR

This is a fixed deposit scheme in which instead of issuing one single FDR bank issues

several FDR of small denominations. These have a provision that in case depositor

wishes to utilize a part of the amount out of the total FDR or in the current account or

savings bank account of the same depositor and if some shortfall of amount is there,

then it can be met by liquidating the FDR of small denomination without affecting the

interest on rest of the FDR amount.

2.3.2.1.e - Recurring Deposit Account/Schemes

This is a bank account in which account holder is required to deposit a fixed amount

every month. This account offers the benefit of higher interest rate as compared to

savings bank account, however there is a restriction of making pre-mature withdrawal

from this account. Account holder can get back his deposited amount along with the

interest earned on it only at the time of maturity. This account offers a facility of

taking a loan against the deposited amount on which bank charges interest.




2.3.2.1.f - Flexi Deposit Account/Scheme

This account is like recurring deposit account with a little difference that the depositor

is not bound to deposit a fix amount every month instead he has the option to make

different amount in each month depending upon his savings, if he desires so. In these

accounts account holder can deposit any amount from a minimum amount up to

maximum amount as specified by the bank. Repayment of principal amount along

with the interest on it is done only at the time of maturity. This account offers a

facility of taking loan against the deposited amount on which bank charges interest.

2.3.2.1.g - Fixed Deposit Receipts (FDR)

Banks offer a low interest on the deposited money in savings bank account and

current account, but these accounts offer the convenience of making partial

withdrawal anytime at demand. In contrary to this FDR is a deposit scheme which

offers a higher interest rate with the condition to maintain the deposit for a fixed time

period. It is not like an account wherein any time any amount can be added instead a

fixed amount is deposited by mentioning the time period till which no withdrawal is

allowed. If the deposit continues till the specified maturity period then interest for the

full period along with the principal amount is paid. These also offer the convenience

of premature withdrawal, in such case interest is paid at a low rate and few banks

charge a panel interest also.

FDR can be pledged with the issuing bank to obtain a loan against the FDR or it can

be pledged to open a cash credit account. In case a loan is taken against the FDR then

bank gives the interest on the amount of FDR and charges the interest on the loan

amount. Fixed deposit is a financial instrument for investors to deposit money for a

fixed duration ranging from 15 days to 10 years. Therefore, the depositors are

supposed to continue such FDR for the duration of time for which the depositor

decides to keep the money with the bank. However, in case of need, the depositor can

ask for closing the fixed deposit in advance by paying a penalty. Soon some banks

have even introduced variable interest fixed deposits. The rate of interest in such

deposits will keep on varying with the prevalent market rates i.e. it will go up if

market interest rate goes and it will come down if the market rates fall. Following are

the advantages of bank deposits.




2.3.2.1.g-i - Safety

FDs have conventionally been the premier choice for investors with a low risk

appetite; assured returns is the key factor which attracts investors towards deposits.

Stick to FDs of the highest credit rating i.e. those with a “AAA” rating even if their

rates seem modest vis-à-vis those offered by company deposits. The fixed deposits of

reputed banks and financial institutions regulated by reserve bank of India are very

secure and considered as one of the safest investment methods.

2.3.2.1.g-ii - Regular Income

Fixed deposits earn fixed interest rates for their entire tenure, which is usually

compounded quarterly. The investors who want an income on a regular basis can

invest into fixed deposits and use the interest rate as their income. This makes a fixed

deposit very popular way of investing money for retire purpose.

2.3.2.1.g-iii - Saves Tax

With the directives of the income tax department stating that investment in fixed

deposits up to a maximum of Rs.100000 for minimum 5 years are eligible for tax

deductions under section 80C of income tax act; fixed deposits have again become

popular. Fixed deposits save tax and give high returns on invested money.

2.3.2.1.g-iv - Liquidity

FDs can be encashed before maturity date i.e. Investment can easily liquidate. But

liquidity comes with some penalty clauses. So, investor needs to compare how various

fixed deposits rank on this parameter and pick the best deal; thereby try to minimize

the impact of illiquidity which is typically associated with fixed deposits.

2.3.2.2 Post Office Deposits / Post Office Savings Certificate

National savings certificate, popularly known as NSC, is a time-tested tax saving

instrument that combines adequate returns with high safety. NSCs are an instrument

for facilitating long-term savings. A large chunk of middle class families use NSCs

for saving on their tax, getting double benefits. They not only save tax on their hard-

earned income but also make an investment which assures good and safe returns.




National savings certificate (NSC) is a fixed interest, long term instrument for

investment. NSCs are issued by the department of post, government of India. Since

they are backed by the government of India, NSCs are a practically risk free avenue of

investment. They can be bought from authorized post offices. They offer a fix rate of

return per annum. This interest is calculated every six months, and is merged with the

principal. That is, the interest is reinvested, and is paid along with the principal at the

time of maturity. NSCs qualify for investment under Section 80C of the income tax

act. Even the interest earned every year qualifies under Sec 80C.

National savings certificates are available in the denominations of Rs. 100, Rs 500,

Rs. 1000, Rs. 5000 & Rs. 10000 throughout the year. There is no maximum limit on

the purchase of the certificates. So it is investor to decide how much amount to invest

in the NSCs. This is of course a huge benefit for investor as he can decide as much as

budget allows. There are various investment schemes available in post offices, like

KVP (KisanVikas Patra), Post Office Monthly Income Scheme (MIS), Post Office

Time Deposits (TD), Post Office Recurring Deposits (RD), National Savings

Certificates (NSC) and National Saving Schemes (NSS) etc. All these schemes are

completely risk-free and do not need to have large sum of money to start investing in

these schemes. Some schemes offer tax-saving benefits and some gives tax-free

returns. So investors need to find out scheme as per requirements.

The certificate can be encashed from the issuing post office on the due date by simply

discharging the certificates at the back. Investor can avail of a loan against the

certificates by pledging it to the bank. The bank will have the NSC assigned in its

favour and advance up to 75 percent of face value plus the amount of accrued interest

till the date of taking the loan.

2.3.2.3 Public Provident Fund

PPF is a 30 year old constitutional plan of the central government happening with the

objective of providing old age profits security to the unorganized division workers

and self-employed persons. Any individual salaried or non-salaried can open a PPF

account. Investor may also pledge on behalf of a minor, HUF, AOP and BOI. Even




NRIs can open PPF account. A person can contain only one PPF account. Also two

adults cannot open a combined PPF account. The collective annual payment by an

individual on account of himself his minor child and HUF/AOP/BOI cannot exceed

Rs.70000 or else the excess amount will be returned without any interest.

The yearly contribution to PPF account ranges minimum Rs.500 to a maximum of

Rs.70000 payable in multiple of Rs.500 either in lump sum or in convenient

installments, not exceeding 12 in a year. The account will happen to obsolete if the

required minimum of Rs.500 is not deposited in any year. The account can be

regularized by depositing for each year of default, arrears of Rs.500 along with

penalty of Rs.100.

A PPF account can be opened at any branch of State Bank of India or its subsidiaries

or in few national banks or in post offices. On opening of account a pass book will be

issued wherein all amounts of deposits, withdrawals, loans and repayment together

with interest due shall be entered. The account can also be transferred to any bank or

post office in India. Deposits in the account earn interest at the rate notify by the

central government from time to time. Interest is designed on the lowest balance

among the fifth day and last day of the calendar month and is attributed to the account

on 31st March every year. So to derive the maximum, the deposits should be made

between 1st and 5th day of the month.

Even though PPF is 15 year scheme but the effectual period works out to 16 years i.e.

the year of opening the account and adding 15 years to it. The sum made in the 16th

financial year will not earn any interest but one can take advantage of the tax rebate.

The investor is allowed to make one removal every year beginning from the seventh

financial year of an amount not more than 50 percent of the balance at the end of the

fourth year or the financial year immediately preceding the withdrawal, whichever is

less. This facility of making partial withdrawals provide liquidity and the withdrawn

amount can be used for any purpose.




2.3.2.3.a - Features of PPF Account

It is not necessary to make a deposit in every month of the year. The amount of

deposit can be varied to suit the convenience of the account holders.

Those who are contributing to GPF fund or EPF account can also open a PPF

account.

No age is prescribed for opening a PPF account.

Pre-mature closure of a PPF account is not permissible except in case of death.

Nominee/legal heir of PPF account holder on death of the account holder cannot

continue the account, but account had to be closed.

The account holder has an option to extend the PPF account for any period in a

block of 5 years on each time.

The account holder can retain the account after maturity for any period without

making any further deposits. The balance in the account will continue to earn

interest at normal rate as admissible on PPF account till the account is closed.

Deposits are exempt from wealth tax.

Table – 2.1 - Differences and Similarities between NSC and PPF

National Savings Certificate (NSC) Public Provident Fund (PPF)

Interest Paid: 8 percent, compounded

half-yearly

Interest Paid: 8 percent, compounded

Annually

No monthly/yearly payments No monthly/yearly payments

Minimum investment: Rs 100 Minimum investment: Rs 500

(required annually)

Maximum investment: No Limit Maximum investment: Rs 70000

Duration of investment: 6 years Duration of investment: 15 years

Can be used as a security for

mortgage and other purposes

Cannot be used for such purposes

Tax benefit under Section

80 „C‟ available.

Tax benefit under Section

80 „C‟ available.

Maximum limit: Rs 100000 (80 C) Maximum limit: Rs. 70000 (80 C)

Good medium-term investment option Good long-term investment option

Interest if fully Taxable Interest is fully Exempt




2.3.2.4 Employee Provident Fund (EPF)

EPF has been such a successful idea that many people check where a company offers

EPF before taking up employment. Through EPF, the employer deducts 12 percent of

the employee‟s salary and contributes an equal amount from their side. For example,

if basic salary of any person is Rs. 6000, then employees contribution will be 12

percent of 6000 would be Rs. 720. Employer will also contribute an equal amount.

But 8.33 percent of the 12 percent contributed by the employer (6000*8.33 percent =

500) will get deposited in the employees‟ pension scheme (EPS) and the remaining

(6000*3.67 percent = 220) will be added to the employee‟s contribution and deposited

into the employee‟s EPF account. So, in total 940 Rs. will get deposited in the

employee‟s EPF account and Rs. 500 will get deposited in the EPS account. But here

the contribution to EPS is limited to a maximum of Rs. 541 irrespective of salary; the

rest of the amount will get deposited in EPF account. Investor will earn interest on the

amount deposited in PPF account as well as get tax benefits under section 80C for the

contribution from salary.

2.3.2.4.a - Advantages of EPF Account

i. The amount contributed by investor under EPF is eligible for tax deductions under

section 80C up to a limit of Rs. 100000. The employer‟s contribution is not

considered for tax deduction.

ii. Investor need not to open EPF account. It is opened by employer.

iii. At the time of closing an account and withdrawing money, simple procedure is

required to follow and money will get deposited to investors account.

iv. At the time of switching job, investor need to mention EPF account number to

new employer. The amount accumulated in earlier EPF account will get

transferred to new account automatically.

v. If EPF account holds for more than five years or more, the amount investor gets

on closing account is completely tax free.

vi. Investor can deposit more than 12 percent in EPF account.




2.3.2.4.b - Disadvantages of EPF Account

i. Investors cannot withdraw amount from EPF account, except in case of

emergencies.

ii. If withdraw money before completion of five years, investors will have to pay tax

on the amount received.

iii. It is not a liquid investment; on closing account or withdrawing amount, investor

will not get amount due to him immediately, it takes around two to three months.

2.3.2.5 Insurance Schemes

Insurance is a contract between the policy owner and the insurer, where the insurer

agrees to pay an amount of money upon the happening of the insured individual's or

individuals' death or other event, like terminal illness, critical illness. In return, the

policy owner agrees to pay a fixed amount called a premium at regular intervals. Like

other insurance policies, life insurance is also a contract between the insurer and the

policy owner whereby a benefit is paid to the nominated beneficiaries if an insured

event occurs which is covered by the policy. The assessment for the policyholder is

derived not from an actual claim event, but to a certain extent it is the value derived

from the 'peace of mind' experienced by the policyholder; because of the negating of

adverse financial consequences caused by the death of the life assured.

By investing in life insurance, almost anyone can transfer the financial risks of dying

early, guaranteeing a payout for family members who might otherwise be left in

economic turmoil. Today's insurance policies, however, often come with features

borrowed from the investment world, blending traditional insurance with attributes of

a mutual funds account. There are many types of insurance policies available in the

market. Insurance plans can be divided into two major parts: 1. Life insurance and 2.

General insurance.

2.3.2.5.a - Life Insurance

Life insurance covers all the potential dangers, which may damage life. A life

insurance can be short term and permanent. A short term life insurance plan protects

the person for a certain amount of time. A permanent life insurance policy covers the

person until he pays off his monthly premiums regularly.




2.3.2.5.b - General Insurance

There are several types of general insurance in market. Some of them are mentioned

below:

2.3.2.5.b-i - Health Insurance

Health insurance cover protects the policy holder from any kind of accident and

medical conditions. Be it the medical expenses, the consultant's fees, or the accident

cover, a health insurance policy takes care of any health related issue. Health

insurance can be short term and long term. Group health insurance is offered by

corporate houses.

2.3.2.5.b-ii - Motorcar Insurance

Every car owner must have car insurance. Accidents can take place any time. A

general car insurance includes personal cover and at the same time, personal liabilities

also.

2.3.2.5.b-iii - Travel Insurance

No matter whether it is a small trip or a long tour, a business tour or a pleasure

holiday, a travel insurance is a must for all travelers. Travel insurance can be for

single trip and for multi trips. Travel insurance can cover the policyholder against

accidents, hospitalization charges, loss of luggage and many more.

2.3.2.5.b-iv - Property Insurance

Property insurance protects personal belonging from any danger such as theft, fire,

natural calamities etc. Some special types of property insurance covers are fire

insurance, earthquake insurance, flood insurance, inland marine insurance, home

insurance, boiler insurance etc.

2.3.2.5.b-v - Casualty Insurance

Casualty insurance insures the policy holder from casualties, caused by any kind of

accident. Two casualty insurance plans are crime insurance and political risk




insurance. Crime insurance can cover against criminal activities. Political risk

insurance covers against any unrest situation, caused by political issues.

Some other types of insurance policies are:

All-risk insurance

Expatriate insurance

Media liability insurance

Pet insurance

Legal expenses insurance

Collateral protection insurance

Locked funds insurance

Kidnap and ransom insurance

Today, there is no shortage of investment options for a person to choose from.

Modern day investments includes gold, property, fixed income instruments, mutual

funds and of course, life insurance. Given the plethora of choices, it becomes

imperative to make the right choice when investing hard-earned money. Insurance is a

unique investment that helps to meet dual needs - saving for life's important goals,

and protecting assets. From an investor's point of view, an investment can play two

roles - asset appreciation or asset protection. While most financial instruments have

the underlying benefit of asset appreciation, life insurance is unique in that it gives the

customer the reassurance of asset protection, along with a strong element of asset

appreciation.

The core benefit of life insurance is that the financial interests of one‟s family remain

protected from circumstances such as loss of income due to critical illness or death of

the policyholder. Simultaneously, insurance products also have a strong inbuilt wealth

creation proposition. The investor therefore benefits on two counts and life insurance

occupies a unique space in the landscape of investment options available to an

investor. Every investor has some goals in life for which they need to save. Life

insurance is the only investment option that offers specific products tailor made for

different life stages. It thus ensures that the benefits offered to the customer reflect the

needs of the customer at that particular life stage, and hence ensures that the financial

goals of that life stage are met.




2.3.2.5.c - Advantages of a Life Insurance Policy

2.3.2.5.c-i - Early Death Risk Cover

Life today is full of uncertainties; in this scenario life insurance ensures that investor‟s

family members continue to enjoy a good quality of life against any unforeseen event.

The mortality rate is experiencing a declining trend in many parts of the world.

However it is also important to note that the age at which people die is also ever

decreasing. Some reasons for this include unhealthy living style, stress, pollution, and

some natural calamities. This necessitates people to make adequate measures to yield

income for their family and dependents. This could be a serious concern if the insured

happens to be the sole bread winner. Some individuals see this as an option to plan

their retirement.

2.3.2.5.c-ii - Planning for Life Stage Needs

Life Insurance not only provides for financial support in the event of premature death

but also acts as a long term investment. Investors can meet its goals, be it children's

education, their marriage, building dream home or planning a relaxed retired life,

according to life stage and risk appetite. Traditional life insurance policies i.e.

traditional endowment plans, offer in-built guarantees and defined maturity benefits

through variety of product options such as money back, guaranteed cash values,

guaranteed maturity values etc.,

2.3.2.5.c-iii - Protection Against Rising Health Expenses

Life Insurers through riders or standalone health insurance plans offer the benefits of

protection against critical diseases and hospitalization expenses. This benefit has

assumed critical importance given the increasing incidence of lifestyle diseases and

escalating medical costs.

2.3.2.5.c-iv - Builds the Habit of Thrift

Life Insurance is a long-term contract where policy holder, have to pay a fixed

amount at a defined periodicity. This builds the habit of long-term savings. Regular

savings over a long period ensures that a decent corpus is built to meet financial needs

at various life stages.




2.3.2.5.c-v - Safe and Profitable Long-Term Investment

Life Insurance is a highly regulated sector. IRDA, the regulatory body, through

various rules and regulations ensures that the safety of the policyholder's money is the

primary responsibility of all stakeholders. Life Insurance being a long-term savings

instrument, also ensures that the life insurers focus on returns over a long-term and do

not take risky investment decisions for short term gains.

2.3.2.5.c-vi - Assured Income Through Annuities

Life Insurance is one of the best instruments for retirement planning. The money

saved during the earning life span is utilized to provide a steady source of income

during the retired phase of life.

2.3.2.5.c-vii - Protection Plus Savings Over a Long Term

Since traditional policies are viewed both by the distributors as well as the customers

as a long term commitment; these policies help the policy holders to meet the dual

need of protection and long term wealth creation efficiently.

2.3.2.5.c-viii - Growth Through Dividends

Traditional policies offer an opportunity to participate in the economic growth

without taking the investment risk. The investment income is distributed among the

policyholders through annual announcement of dividends/bonus.

2.3.2.5.c-ix - Facility of Loans without Affecting the Policy Benefits

Policyholders have the option of taking loan against the policy. This helps to meet

unplanned life stage needs without adversely affecting the benefits of the policy they

have bought.

2.3.2.5.c-x - Mortgage Redemption

Insurance acts as an effective tool to cover mortgages and loans taken by the

policyholders so that, in case of any unforeseen event, the burden of repayment does

not fall on the bereaved family.




2.3.2.5.c-xi - Increase in the Cost of Living and Spending Power

The purchasing power of the consumers and the standard of living has experienced a

steep rise over the years. The increase in national income and gross domestic product

are partly responsible for this. Individuals incur many unexpected expenses due to the

growing needs. Insurance comes in handy to meet such an unexpected expense. It also

makes sure that an individual is able to meticulously plan his finances. Insurance

option is more or less an interest free loan. An individual can cancel his insurance

policy and obtain a huge amount if it is imperative in meeting an urgent expenses and

he does not have alternative sources for finance. Life insurance companies therefore

do the needful to consumers.

2.3.2.5.c-xii - Tax Concessions

Income tax concessions are available to individuals and corporate houses who adopt

insurance policies. Many have been making investments in insurance with the sole

aim of enjoying tax benefits. This naturally increases spending power. Since the

investments increases, the economic activities in the country automatically increase.

2.3.2.5.c-xiii - Best Option for Salaried Youth

Insurance is by and large regarded as one of the savings scheme. Investors see

insurance as a profitable scheme to regulate their savings. Apart from tax concessions

life insurance entails individuals to enjoy more benefits as they have special and

attractive schemes for this segment.

2.3.2.6 Mutual Funds

A Mutual fund is an investment tool that allows small investors to access a well-

diversified portfolio of equities, bonds and other securities. Each shareholder

participates in the gain or loss of the fund. Units are issued and can be redeemed as

needed. A mutual funds is a professionally managed firm of collective investments

that pools money from many investors and invests it in stocks, bonds, short-term

money market instruments, and/or other securities. In a mutual funds, the fund

manager, who is also known as the portfolio manager, trades the fund's underlying

securities, realizing capital gains or losses, and collects the dividend or interest

income. The investment proceeds are then passed to the individual investors. The




value of a share of the mutual funds, known as the net asset value per share (NAV), is

calculated daily based on the total value of the fund divided by the number of shares

currently issued and outstanding. There are several benefits from investing in Mutual

funds.

2.3.2.6.a - Small Investments

Mutual funds help to reap the benefit of returns by a portfolio spread across a wide

spectrum of companies with small investments. Such a spread would not have been

possible without their assistance.

2.3.2.6.b - Professional Fund Management

Professionals having considerable expertise, experience and resources; manage the

pool of money collected by mutual funds. They thoroughly analyze the markets and

economy to pick good investment opportunities.

2.3.2.6.c - Spreading Risk

An investor with a limited amount of fund might be able to invest in only one or two

stocks or bonds, thus increasing his or her risk. However, mutual funds will spread its

risk by investing a number of sound stocks or bonds. A fund normally invests in

companies across a wide range of industries, so the risk is diversified at the same time

taking advantage of the position it holds. Also in cases of liquidity crisis where stocks

are sold at a distress, mutual funds have the advantage of the redemption option at the

NAVs.

2.3.2.6.d - Transparency and Interactivity

Mutual funds regularly provide investors with information on the value of their

investments. Mutual funds also provide complete portfolio disclosure of the

investments made by various schemes and also the proportion invested in each asset

type. Mutual funds clearly layout their investment strategy to the investor.




2.3.2.6.e - Liquidity

Closed ended funds have their units listed at the stock exchange, thus they can be

bought and sold at their market value. Over and above this, the units can be directly

redeemed to the mutual funds as and when they announce the repurchase.

2.3.2.6.f - Choice

The large amount of mutual funds offers the investor a wide variety to choose from.

An investor can pick up a scheme depending upon his risk / return profile.

2.3.2.6.g - Regulations

All the mutual funds are registered with SEBI and they function within the provisions

of strict regulation designed to protect the interests of the investor.

2.3.2.7 Commodity Investment

After Indian economy embarked upon the process of liberalization and globalization

in 1990, the Indian government set up a committee in 1993 to examine the role of

futures trading. The committee headed by Prof. K.N. Kabra recommended allowing

futures trading in 17 commodity groups. It also recommended strengthening of the

forward markets commission, and certain amendments to forward contracts regulation

act 1952, particularly allowing options trading in goods and registration of brokers

with forward markets commission. The government accepted most of these

recommendations and futures trading were permitted in all recommended

commodities.

India is among the top five producers of most of the commodities, in addition to being

a major consumer of bullion and energy products. Agriculture contributes about 22

percent to the GDP of the Indian economy. It employees around 57 percent of the

labor force on a total of 163 million hectares of land. Agriculture sector is an

important factor in achieving a GDP growth of 8-10 percent. All this indicates that

India can be promoted as a major center for trading of commodity derivatives. It is

unfortunate that the policies of FMC (Forward Market Commission) during the most

of 1950s to 1980s suppressed the markets. It was supposed to encourage and nurture




to grow with times. It was a mistake that other emerging economies of the world

would want to avoid.

However, it is not in India alone that derivatives were suspected of creating too much

speculation that would be to the detriment of the healthy growth of the markets and

the farmers. Such suspicions might normally arise due to a misunderstanding of the

characteristics and role of derivative product. It is important to understand why

commodity derivatives are required and the role they can play in risk management. It

is common knowledge that prices of commodities, metals, shares and currencies

fluctuate over time. The possibility of adverse price changes in future creates risk for

businesses. Derivatives are used to reduce or eliminate price risk arising from

unforeseen price changes. A derivative is a financial contract whose price depends on,

or is derived from, the price of another asset. Two important derivatives are futures

and options.

2.3.2.7.a - Commodity Futures Contracts

A futures contract is an agreement for buying or selling a commodity for a

predetermined delivery price at a specific future time. Futures are standardized

contracts that are traded on organized futures exchanges that ensure performance of

the contracts and thus remove the default risk. The commodity futures have existed

since the Chicago board of trade was established in 1848 to bring farmers and

merchants together. The major function of futures market is to transfer price risk from

hedgers to speculators. For example, suppose a farmer is expecting his crop of wheat

to be ready in two months‟ time, but is worried that the price of wheat may decline in

this period. In order to minimize his risk, he can enter into a futures contract to sell his

crop in two months‟ time at a price determined now. This way he is able to hedge his

risk arising from a possible adverse change in the price of his commodity.

2.3.2.7.b - Commodity Options Contracts

Like futures, options are also financial instruments used for hedging and speculation.

The commodity option holder has the right, but not the obligation, to buy or sell a

specific quantity of a commodity at a specified price on or before a specified date.




Option contracts involve two parties – the seller of the option, who writes the option

in favour of the buyer, who pays a certain premium to the seller as a price for the

option. There are two types of commodity options: a „call‟ option gives the holder a

right to buy a commodity at an agreed price, while a „put‟ option gives the holder a

right to sell a commodity at an agreed price on or before a specified date called expiry

date.

Futures and options trading therefore helps in hedging the price risk and also provide

investment opportunity to investors who are willing to assume risk for a possible

return. Further, futures trading and the ensuing discovery of price can help farmers in

deciding which crops to grow. They can also help in building a competitive edge and

enable businesses to smoothen their earnings because non-hedging of the risk would

increase the volatility of their quarterly earnings. Thus futures and options markets

perform important functions that cannot be ignored in modern business environment.

Commodity markets are markets where raw or primary products are exchanged. These

raw commodities are traded on regulated commodities exchanges, in which they are

bought and sold in standardized contracts. The terms commodities and futures are

often used to depict commodity trading or futures trading. It is similar to the way

stocks and equities are used when investors talk about the stock market. Commodities

are the actual physical goods like gold, crude oil, corn, soy beans, etc. Futures are

contracts of commodities that are traded at a commodity exchange like MCX. Apart

from numerous regional exchanges, India has three national commodity exchanges

namely, Multi Commodity Exchange (MCX), National Commodity and Derivatives

Exchange (NCDEX) and National Multi-Commodity Exchange (NMCE). Forward

Markets Commission (FMC) is the regulatory body of commodity market. It is one of

a few investment areas where an individual with limited capital can make

extraordinary profits in a relatively short period of time. Selected information about

the most important commodity exchanges in India is given here.

http://en.wikipedia.org/wiki/Commodities_exchange




2.3.2.7.c - Multi-Commodity Exchange of India Limited (MCX)

MCX an independent and de-mutualized multi commodity exchange has permanent

recognition from government of India for facilitating online trading, clearing and

settlement operations for commodity futures markets across the country. Key

shareholders of MCX are Financial Technologies (India) Ltd., State Bank of India,

NABARD, NSE, HDFC Bank, State Bank of Indore, State Bank of Hyderabad, State

Bank of Saurashtra, SBI Life Insurance Co. Ltd., Union Bank of India, Bank of India,

Bank of Baroda, Canara Bank and Corporation Bank. Its headquartered is in Mumbai.

MCX is led by an expert management team with deep domain knowledge of the

commodity futures markets.

Through the integration of dedicated resources, robust technology and scalable

infrastructure, since inception MCX has recorded many first to its credit. Inaugurated

in November 2003 by Shri Mukesh Ambani, Chairman & Managing Director,

Reliance Industries Ltd, MCX offers futures trading in the following commodity

categories: Agriculture Commodities, Bullion, Metals- Ferrous & Non-ferrous,

Pulses, Oils & Oilseeds, Energy, Plantations, Spices and other soft commodities.

MCX has built strategic alliances with some of the largest players in commodities

namely Bombay Bullion Association, Bombay Metal Exchange, Solvent Extractors'

Association of India, Pulses Importers Association, Shetkari Sanghatana, United

Planters Association of India and India Pepper and Spice Trade Association. Today

MCX is offering spectacular growth opportunities and advantages to a large cross

section of the participants including producers, processors, traders, corporate, regional

trading centers, importers, exporters, cooperatives and industry associations.

2.3.2.7.d - National Commodity & Derivatives Exchange Limited

National Commodity & Derivatives Exchange Limited is a professionally managed

online multi commodity exchange promoted by ICICI Bank Limited, Life Insurance

Corporation of India, National Bank for Agriculture and Rural Development and

National Stock Exchange of India Limited. Punjab National Bank, Credit Rating

Information Services of India Limited, Indian Farmers Fertilizer Cooperative Limited

and Canara Bank by subscribing to the equity shares have joined the initial promoters

as shareholders of the Exchange. NCDEX is the only commodity exchange in the




country promoted by national level institutions. This unique parentage enables it to

offer a bouquet of benefits, which are currently in short supply in the commodity

markets.

The institutional promoters of NCDEX are prominent players in their respective fields

and bring with them institutional building experience, trust, nationwide reach,

technology and risk management skills. NCDEX is a public limited company

incorporated on April 23, 2003 under the companies act, 1956. It obtained its

certificate for commencement of business on May 9, 2003. It has commenced its

operations on December 15, 2003. NCDEX is a nation-level, technology driven

de-mutualized online commodity exchange with an independent board of directors

and professionals not having any vested interest in commodity markets. It is

committed to provide a world-class commodity exchange platform for market

participants to trade in a wide spectrum of commodity derivatives driven by best

global practices, professionalism and transparency.

NCDEX is regulated by forward market commission in respect of futures trading in

commodities. Besides, NCDEX is subjected to various laws of the land like the

Companies Act, Stamp Act, Contracts Act, Forward Commission (regulation) Act and

various other legislations, which impinge on its working. NCDEX is located in

Mumbai and offers facilities to its members in more than 390 centers throughout

India. The reach will gradually be expanded to more centers. NCDEX currently

facilitates trading of thirty six commodities - Cashew, Castor Seed, Chana, Chilli,

Coffee, Cotton, Cotton Seed Oilcake, Crude Palm Oil, Expeller Mustard Oil, Gold,

Guar gum, Guar Seeds, Gur, Jeera, Jute sacking bags, Mild Steel Ingot, Mulberry

Green Cocoons, Pepper, Rapeseed - Mustard Seed ,Raw Jute, RBD Palmolein,

Refined Soy Oil, Rice, Rubber, Sesame Seeds, Silk, Silver, Soy Bean, Sugar, Tur,

Turmeric, Urad (Black Matpe), Wheat, Yellow Peas, Yellow Red Maize and Yellow

Soybean Meal.




2.3.2.7.e - Advantages of Commodity Investment

2.3.2.7.e-i - Investing in Commodities

Commodity investing was initially received well only by a few sectors. Commodities

investing were first restricted to the trade and exchange of commodities meant for

regular and day to day use. However the awareness in the subsequent stages has

brought all sectors into the manifold of commodity investing and has enabled speedy

movements, transfer and transaction of goods and services. The following are the

benefits of investing in commodities market.

2.3.2.7.e-ii - Reduced Risks

As an investor chances of risks are very less if choose to invest in commodity.

Therefore the gains from commodity investing will be helpful for investor to balance

other losses due to other financial instruments in portfolio. The chances of risks are

lower because commodity investing primarily deals with diverse items. Moreover

when the contracts are entered for a future date at the current time investor can

exercise reasonable care and see to it that the chances of risks are reduced or nil.

2.3.2.7.e-iii - Helps to Fix Price Easily

The performance of commodity market can be monitored by analyzing the

performance of bond and share market because in most cases a commodity market

will perform well when the others don't perform and vice versa. It is therefore

possible to easily predict the prices and make the contracts by considering the ups and

downs in other markets. A prerequisite for this is that the assets in the commodity

market should not be correlated with the stock and bond market.

2.3.2.7.f - Disadvantages of Commodity Investment

The futures markets can be very volatile and direct investment in these markets

can be very risky, especially for inexperienced investors.

Leverage can greatly increase profit, but likewise can greatly increase losses.

Investor can lose initial deposit and more before investors are not able to close

position if trade turns and begins to lose money.




2.3.2.8 FOREX Market

The foreign exchange market also known as FOREX. FOREX or currency market is a

global, worldwide decentralized over the counter financial market for trading

currencies. Financial centers around the world function as anchors of trading between

a wide range of different types of buyers and sellers round the clock, with the

exception of weekends. The foreign exchange market determines the relative values

of different currencies.

The primary purpose of the foreign exchange is to assist international trade and

investment, by allowing businesses to convert one currency to another currency. For

example, it permits a US business to import British goods and pay Pound, even

though the business's income is in US dollars. It also supports speculation, and

facilitates the carry trade, in which investors borrow low-yielding currencies and lend

or invest in high-yielding currencies, and which may lead to loss of competitiveness

in some countries.

In a typical foreign exchange transaction, an investor purchases a quantity of one

currency by paying a quantity of another currency. The modern foreign exchange

market began forming during the 1970s when countries gradually switched to floating

exchange rates from the previous exchange rate regime, which remained fixed as per

the Bretton Woods system.

The foreign exchange market is unique because of

Its huge trading volume, leading to high liquidity;

Its geographical dispersion;

Its continuous operation: 24 hours a day except weekends;

The variety of factors that affect exchange rates;

The low margins of relative profit compared with other markets of fixed income;

and

The use of leverage to enhance profit margins with respect to account size.

http://en.wikipedia.org/wiki/Over-the-counter_(finance)

http://en.wikipedia.org/wiki/Pound_Sterling

http://en.wikipedia.org/wiki/US_dollars

http://en.wikipedia.org/wiki/Carry_trade

http://en.wikipedia.org/wiki/Floating_exchange_rate

http://en.wikipedia.org/wiki/Floating_exchange_rate

http://en.wikipedia.org/wiki/Exchange_rate_regime

http://en.wikipedia.org/wiki/Fixed_exchange_rate

http://en.wikipedia.org/wiki/Bretton_Woods_system

http://en.wikipedia.org/wiki/Liquidity

http://en.wikipedia.org/wiki/Exchange_rate

http://en.wikipedia.org/wiki/Leverage_(finance)




2.3.2.8.a - Market Size Liquidity

The foreign exchange market is the largest and most liquid financial market in the

world. Traders include large banks, central banks, institutional investors, currency

speculators, corporations, governments, other financial institutions and retail

investors. The average daily turnover in the global foreign exchange and related

market is continuously growing. According to the 2010 Triennial central bank survey,

coordinated by the bank for international settlements, average daily turnover was Rs.

398000 crores in April 2010 vs. Rs. 170000 crores in 1998. From this Rs. 398000

crores, Rs. 150000 crores was spot foreign exchange transactions and Rs. 250000

crores was traded in outright forwards, FOREX swaps and other currency derivatives.

Trading in London accounted for 36.7 percent of the total, making London by far the

most important global center for foreign exchange trading. In second and third places,

respectively, trading in New York accounted for 17.9 percent, and Tokyo accounted

for 6.2 percent.

Turnover of exchange-traded foreign exchange futures and options have grown

rapidly in recent years, reaching Rs. 16600 crores in April 2010 double the turnover

recorded in April 2007. Exchange-traded currency derivatives represent 4 percent of

OTC foreign exchange turnover. FOREX futures contracts were introduced in 1972 at

the Chicago mercantile exchange and are actively traded relative to most other futures

contracts.

Most developed countries permit the trading of FOREX derivative products like

currency futures and options on their exchanges. All these developed countries

already have fully convertible capital accounts. A number of emerging countries do

not permit FOREX derivative products on their exchanges in view of controls on the

capital accounts. The use of foreign exchange derivatives is growing in many

emerging economies. Countries such as Korea, South Africa, and India have

established currency futures exchanges, despite having some controls on the capital

account.

http://en.wikipedia.org/wiki/Liquidity

http://en.wikipedia.org/wiki/Central_bank

http://en.wikipedia.org/wiki/Institutional_investor

http://en.wikipedia.org/wiki/Speculators

http://en.wikipedia.org/wiki/Governments

http://en.wikipedia.org/wiki/Financial_institutions

http://en.wikipedia.org/wiki/Bank_for_International_Settlements

http://en.wikipedia.org/wiki/Derivative_security

http://en.wikipedia.org/wiki/London

http://en.wikipedia.org/wiki/New_York_City

http://en.wikipedia.org/wiki/Tokyo

http://en.wikipedia.org/wiki/Futures_contract

http://en.wikipedia.org/wiki/Chicago_Mercantile_Exchange




FOREX trading is the immediate trade of one currency and the selling of another.

Currencies are traded through an agent or dealer. Investors are not buying anything

physical but think of buying a currency as buying a share of a particular country.

When investor purchase say Japanese Yen, they are in fact buying a share in the

Japanese financial system, as the price of the currency is a direct reflection of what

the market thinks about the current and future health of the Japanese economy. In

common, the exchange rate of a currency versus other currencies is a reflection of the

condition of that country's financial system compared to the other countries financial

system. Unlike other financial markets like the New York stock exchange, the

FOREX spot market has neither a physical location nor a central exchange.

The FOREX market is measured an over the counter (OTC) or interbank market, due

to the fact that the entire market is run electronically within a network of banks

continuously over a 24 hour period. Until the late 1990's only the big investors could

play this game. The first requirement was that investor could trade only if he had

about ten to fifty million bucks to start with FOREX. FOREX was initially intended

to be used by bankers and large institutions and not by small investors. However

because of the rise of the internet, online FOREX trading firms are now able to offer

trading accounts to 'retail' traders also.

2.3.2.8.b - Financial Instruments in Foreign Exchange:

2.3.2.8.b-i - Spot Market and Forwards & Futures Markets

There are actually three ways that institutions, corporations and individuals trade

FOREX: the spot market, the forward market and the future market. The FOREX

trading in the spot market always has been the largest market because it is the

"underlying" real asset that the forwards and futures markets are based on. In the past,

the futures market was the most popular venue for traders because it was available to

individual investors for a longer period of time. However, with the advent of

electronic trading, the spot market has witnessed a huge surge in activity and now

surpasses the futures market as the preferred trading market for individual investors

and speculators. When people refer to the FOREX market, they usually are referring

to the spot market. The forwards and futures markets tend to be more popular with




companies that need to hedge their foreign exchange risks out to a specific date in the

future.

2.3.2.8.b-ii - Spot Market

More specifically, the spot market is where currencies are bought and sold according

to the current price. That price, determined by supply and demand, is a reflection of

many things, including current interest rates, economic performance, and sentiment

towards ongoing political situations both locally and internationally, as well as the

perception of the future performance of one currency against another. When a deal is

finalized, this is known as a "spot deal". It is a bilateral transaction by which one party

delivers an agreed-upon currency amount to the counter party and receives a specified

amount of another currency at the agreed-upon exchange rate value. After a position

is closed, the settlement is in cash. Although the spot market is commonly known as

one that deals with transactions in the present rather than the future, these trades

actually take two days for settlement.

2.3.2.8.b-iii - Forwards and Futures Markets

Unlike the spot market, the forwards and futures markets do not trade actual

currencies. Instead they deal in contracts that represent claims to a certain currency

type, a specific price per unit and a future date for settlement. In the forwards market,

contracts are bought and sold over the counter between two parties, who determine

the terms of the agreement between themselves. In the futures market, futures

contracts are bought and sold based upon a standard size and settlement date on public

commodities markets. Futures contracts have specific details, including the number of

units being traded, delivery and settlement dates, and minimum price increments that

cannot be customized. The exchange acts as a counterpart to the trader, providing

clearance and settlement.

Both types of contracts are binding and are typically settled for cash. The forwards

and futures markets can offer protection against risk when trading currencies. Usually,

big international corporations use these markets in order to hedge against future

exchange rate fluctuations, but speculators take part in these markets as well.




2.3.2.8.b-iv - Swap

The most common type of forward transaction is the FOREX swap. In FOREX swap,

two parties exchange currencies for a certain length of time and agree to reverse the

transaction at a later date. These are not standardized contracts and are not traded

through an exchange.

2.3.2.8.b-v - Option

A foreign exchange option commonly shortened to just FOREX option is a derivative

where the owner has the right but not the obligation to exchange money denominated

in one currency into another currency at a pre-agreed exchange rate on a specified

date. The FOREX options market is the deepest, largest and most liquid market for

options of any kind in the world.

2.3.2.8.b-vi - Risk Aversion in FOREX

Risk aversion in FOREX is a kind of trading behavior exhibited by the foreign

exchange market when a potentially adverse event happens which may affect market

conditions. This behavior is caused when risk adverse traders liquidate their positions

in risky assets and shift the funds to less risky assets due to uncertainty. In the context

of the FOREX market, traders liquidate their positions in various currencies to take up

positions in safe-haven currencies, such as the US Dollar. Sometimes, the choice of a

safe haven currency is more of a choice based on prevailing sentiments rather than

one of economic statistics. An example would be the financial crisis of 2008. The

value of equities across world fell while the US Dollar strengthened. This happened

despite the strong focus of the crisis in the USA.

The foreign exchange market is exclusive because of the following reasons:

Its trading volumes

The tremendous liquidity of the market

Its geographical dispersion

Its long trading hours

The variety of factors that affect exchange rates




The low limits of profit compared with other markets of fixed income but profits

can be high due to very great trading volumes

The use of leverage

2.3.2.8.c - Benefits of FOREX Trading

2.3.2.8.c-i - Superior Liquidity

Liquidity is what really makes the FOREX market different from other markets. The

FOREX market is by far the most liquid financial market in the world with more than

Rs. 300000 crores traded every day. This ensures price stability and better trade

execution. Allowing traders to open and close transactions with ease. Also such a

tremendous volume makes it hard to manipulate the market in an extended manner.

2.3.2.8.c-ii - 24 hour Market

This one is also one of the greatest advantages of trading FOREX. It is an around the

clock market, the market opens on Sunday at 3:00 pm EST when New Zealand begins

operations, and closes on Friday at 5:00 pm EST when San Francisco terminates

operations. There are transactions in practically every time zone, allowing active

traders to choose at what time to trade.

2.3.2.8.c-iii - Leverage Trading

Trading the FOREX market offers a greater buying power than many other markets.

Some FOREX brokers offer leverage up to 400:1, allowing traders to have only 0.25

percent in margin of the total investment. For instance, a trader using 100:1 means

that to have a Rs. 100000 position, only Rs. 1000 are needed on margin to be able to

open that position. Remember leverage is like a double sword, it could work in your

favor as well as against you.

2.3.2.8.c-iv - Low Transaction Costs

Almost all brokers offer commission free trading. The only cost traders incur in any

transaction is the spread; difference between the buy and sell price of each currency

pair. This spread could be as low as 1 percentage in profit in some pairs.




2.3.2.8.c-v - Low Investment

The FOREX market requires less capital to start trading than any other markets. The

initial investment could go as low as Rs. 10000, depending on leverage offered by the

broker. This is a great advantage since FOREX traders are able to keep their risk

investment to the lowest level.

All these benefits make the FOREX market very attractive to investors and traders.

Investor needs to make something clear though, even when all these benefits of the

FOREX market are notorious; it is still difficult to make a profit in FOREX market. It

requires a lot of education, discipline, commitment and patience.

The foreign exchange market, or FOREX, has unique disadvantages not found in

other trading environments. Without understanding the pitfalls investors are almost

guaranteed to lose money.

2.3.2.8.d - Disadvantages of FOREX Market

2.3.2.8.d-i - Central Bank Intervention

Many government central banks intervene in the markets in order to preserve the

value of their currency, not known to the average investor. This intervention is usually

camouflaged to keep the market from knowing. For example, the central bank may

use a network of smaller banks to buy or sell on their behalf. Regardless of the

camouflage used, the result is the same: the currency value is artificially strengthened

or weakened, making it difficult to make trades based on market fundamentals.

2.3.2.8.d-ii - Timing Difficulties

The foreign exchange market is a bartering based system. This means that one item a

given currency is exchanged directly for another item a second currency. These trades

are usually made through a third "vehicle" currency. So, for example, if an investor

wants to trade from the Brazilian Real into the British Pound, holdings of Real are

usually converted into the U.S. Dollar and then reconverted into the Pound. In such a

complex arrangement, it can be difficult when the vehicle currency will remain stable




and the currency to be bought will appreciate against the base currency all within the

same time frame.

2.3.2.8.d-iii - Differences between Retail and Wholesale Pricing

Roughly two-thirds of all trades on the foreign exchange are made between dealers

and large organizations such as hedge funds and banks. Organizations that make

trades of this size operate at wholesale prices known as interbank trading. The

investor, on the other hand, is forced to buy and sell at the retail price known as client

trading. The difference is known as the spread, and shows itself in the form of

commissions and fees paid to the investor's broker. When dealing with spreads, it

becomes a challenge to compete against the larger organizations that start with a

lower entry point and can sell profitably with far less market fluctuation.

2.3.2.8.d-iv - 24 hour Trading

Unlike organized trading exchanges with a central location, the foreign exchange

market is open for trading 24 hours a day. With currency fluctuations being triggered

from traders across the globe, it's a never-ending challenge to stay profitable. This

makes FOREX trading time intensive and constantly hectic.

2.3.2.8.d-v - Platform Freezes

Certain FOREX brokers build price freezes into their platforms that are triggered by

major news events or large fluctuations in the market. This keeps investors far from

trading during the most profitable moments.

2.3.3 Traditional Form of Investments

2.3.3.1 Real Estate Investment

The growth curve of Indian economy is at an all-time high and contributing to the

upswing is the real estate sector in particular. Investments in Indian real estate have

been strongly taking up over other options for domestic as well as foreign investors.

The boom in the sector has been so appealing that real estate has turned out to be a

convincing investment as compared to other investment vehicles such as capital and

debt markets and bullion market. It is attracting investors by offering a possibility of




stable income yields, moderate capital appreciations, tax structuring benefits and

higher security in comparison to other investment options.

A survey by the Federation of Indian Chambers of Commerce and Industry (FICCI)

and Ernst & Young has predicted that Indian real estate industry is poised to emerge

as one of the most preferred investment destinations for global realty and investment

firms in the next few years. The potential of India's property market has a

revolutionizing effect on the overall economy of India as it transforms the skyline of

the Indian cities mobilizing investments segments ranging from commercial,

residential, retail, industrial, hospitality, healthcare etc. But maximum growth is

attributed to its growth from the booming IT sector, since an estimated 70 percent of

the new construction is for the IT sector. Real estate industry research has also thrown

light on investment opportunities in the commercial office segment in India. The

demand for office space is expected to increase significantly in the next few years,

primarily driven by the IT and ITES industry that requires an projected office space of

more than 367 million square feet till 2012-13.

2.3.3.1.a - Advantages of Investment in Properties

In general, property is considered a fairly low-risk investment, and can be less volatile

than shares. Some of the advantages of investing in property includes following.

2.3.3.1.a-i - Tax Benefits

A number of deductions can be claimed on tax return, such as interest paid on the

loan, repairs and maintenance, rates and taxes, insurance, agent's fees, travel to and

from the property to facilitate repairs, and buildings depreciation.

2.3.3.1.a-ii - Negative Gearing

Tax deductions can also be claimed as a result of negative gearing, where the costs of

keeping the investment property exceed the income gained from it.




2.3.3.1.a-iii - Long - Term Investment

Many people like the idea of an investment that can fund them in their retirement.

Rental housing is one sector that rarely decreases in price, making it a good potential

option for long-term investments.

2.3.3.1.a-iv - Positive Asset Base

There are many benefits from having an investment property when deciding to take

out another loan or invest in something else. Showing potential lender that have the

ability to maintain a loan without defaulting will be highly regarded. The property can

also be useful as security when taking out another home, car or personal loan.

2.3.3.1.a-v - Safety Aspect

Low-risk investments are always popular with untrained "mum and dad" investors.

Property fits these criteria with returns in some country areas reaching 10 percent per

year. Housing in metropolitan areas is constantly in demand with the high purchase

price being offset by substantial rental income and a yearly return of between 6 to 9

percent.

2.3.3.1.a-vi - High Leverage Possibilities

Investment properties can be purchased at 80 percent LVR (loan to valuation ratio), or

up to 90 percent LVR with mortgage insurance. The LVR is calculated by taking the

amount of the loan and dividing it by the value of the property, as determined by the

lender. This high leverage capacity results in a higher return for the investor at a lower

risk due to less personal finance ties up in the property. By choosing a property

intelligently, investors can make this form of investment work for them. However, as

with all investments there are some disadvantages to be aware of. Disadvantages of

investment properties includes the following.

2.3.3.1.a-vii - Liquidity

Investor can sell the property if things go bad, but however this can take many months

unless willing to accept a price less than the property is worth. Unlike the stock

market, investor will have to wait for any financial rewards.




2.3.3.1.a-viii - Vacancies

There will be times when mortgage payments will need to be covered out of own

pocket due to property being untenanted. This could just be a result of a gap between

tenants or because of maintenance issues.

2.3.3.1.a-ix - Bad Tenants

It‟s every investment property owner's worst frightening problem of bad tenant. They

can significantly damage property, refuse to pay rent and refuse to leave. Disputes can

sometimes take months to resolve.

2.3.3.1.a-x - Property Oversupply

In recent years, inner-city builders have created a glut of high-rise apartment blocks,

resulting in fierce competition and many units being increasingly difficult to rent out.

2.3.3.1.a-xi - Ongoing Costs

In addition to the standard costs associated with a property, ongoing maintenance

costs, especially with an older building, can be substantial.

2.3.3.1.a-xii - Putting all your Eggs in one Basket

If investor has tied up all money in property, overexposure to one particular type of

investment can be a dangerous thing. If the property market crashes investor can stand

to lose significantly.

2.3.3.1.a-xiii - Capital Gain Tax

Capital gain tax is imposed by the federal government on the appreciation of

investments and payable on disposal. Increase in tax rates reduces the amount of

appreciation benefit.

2.3.3.1.a-xiv - Other Costs

Negative gearing may offer tax deductions each financial year, however ongoing

payments to cover the shortfall need to be budgeted for every month. Also, costs

involved in purchasing and disposing of the property can be substantial.




2.3.3.2 Gold & Silver Investment

Gold has got lot of emotional value than monetary value in India. India is the largest

consumer of gold in the world. In western countries, majority of stock of gold is kept

in central banks. But in India, people use gold mainly as jewels. When look at gold in

a business sense, anybody can understand that gold is one of the all-time best

investment tool in India. Following data shows Indian gold market current scenario.

Size of the gold economy in India is more than Rs. 30000 crores.

Number of gold jewelry manufacturing units is almost 100000.

Number of people employed more than 500000.

Gems & Jewellery constitute 25 percent of India‟s exports and about 10 percent of

our import bill constitutes gold import.

Official estimates of the stock of gold in India are 9000 tons; unofficial estimates

of the stock of gold in India are 12000 to 14000 tons.

Gold held by the reserve bank of India as on 31st March, 2010 was 358 tons.

Gold production in India is 2 tons per annum.

India has the highest demand for gold in the world and more than 90 percent of this

gold is acquired in the form of jewellery. The movement of gold prices is one of the

important variables determining demand for gold. The increase in the irrigation,

technological change in agriculture have generated large marketable surplus; and a

highly skewed rural income distribution is another factors contributing to additional

demand for gold.

2.3.3.2.a - Types of Gold

Some of the popular modes of investing in gold are gold coin investing, gold stock

investing, gold bullion investing etc,. Before investors decide to invest in the gold he

or she must decide which form suits in terms of convenience, convertibility and

preference. Some of the popular forms of investment are as follows




2.3.3.2.a-i - Raw Gold

This is the most common form of gold. However it is not regarded to be safe and

maintenance becomes difficult. If planning to invest in large quantities this method is

extremely unsuitable. One should think of adopting this method carefully because

adequate safety measures like keeping them in a bank locker is required.

2.3.3.2.a-ii - Jewellery

This form of investment is also equally famous. This form of investment can be

especially beneficial if investors are planning to trade them to the consumers and

households. The advantage of raw gold and jewellery are that they facilitate liquidity

in no time. However investor have to take lot of care to maintain jewellery and it is

not advisable to opt this method unless or otherwise gold investments are full time

trade.

2.3.3.2.a-iii - Gold Coin

This form of investment is advantageous when compared with the earlier two forms

because it is easily portable. However there are lots of gold coins specific to national

boundaries and must have a clear idea of their values before trading with them. It is

also very easy to convert gold coins to other forms and as well as selling them for

cash.

2.3.3.2.a-iv - Exchange Traded Funds (ETF)

ETFs are beneficial gold investment plan if investors do not want to indulge for

paying premiums and commissions. As it is similar to shares in the stock market, it is

accessible for the investors effortlessly. ETF is treated like a normal stock therefore

only need to make payment for the stockbroker‟s commission. The management

procedure is comparable to the mutual funds but do not need to deal with paper works

and unnecessary expenses. But do remember that ETFs have a stipulated cost along

with a management fee on them that depreciates the worth of the share.




2.3.3.2.a-v - Gold Mining Companies

The gold mining companies have distributed public shares therefore investor can opt

for these shares. This is considered a brilliant option for investing in gold. The gold

mining share prices will shoot up with the steady increase in the price of gold bullion.

2.3.3.2.a-vi - Gold Certificates

In this type of investment plan these certificates will be a proof of the amount of gold

purchased. Investors have three options here to invest as he or she can buy physical

gold or trade through certificates or opt for a gold accumulation plan. In case of gold

accumulation, investor can buy gold each month for a fixed sum at a standard market

price. There is a stable rise in the graph of gold investment so it is a preferred option

for many people to invest in gold according to the existing financial situation.

2.3.3.2.b - Advantages of Investing in Gold

Gold has been a useful commodity throughout the economic history of mankind. In

the earlier civilizations gold used to be a currency itself. There used be to coins made

of gold and silver. The gold remained in the market as a standard for trading purposes

till the beginning of the 20th

century. In the second half of the previous century gold

was replaced by paper currencies the world over. Here are the few benefits of

investing in gold.

2.3.3.2.b-i - Stability in Trading Value

Although there have been some down turns but over the last few decades gold has

overall seen a surge in its value. It has been used as a way of preserving wealth. Take

the example of its equivalence to US dollar. In the early 70s, one ounce of gold

equaled 35 $ which has now risen to 1000$. The value of dollar might have decreased

due to various reasons chief of them being an increase in the amount of money

available in the market.




2.3.3.2.b-ii - Economic Weapon

From the various statistics of the central banks and IMF it is evident that almost one

fifth of the reserves are in the form of gold. Had the gold not been a symbol of

security the economists would have never preserved the wealth of the country in the

form of the gold. It is also used against the inflation. The buying power of the gold

owner is preserved or increases with the increase of inflation. Inflation can harm in

the long run when buying goods at an increased price or when currency is devalued.

2.3.3.2.b-iii - Lesser Production of Gold

Like any other mineral gold reserves have also started to deplete. This has resulted in

lesser production of gold from the gold producing countries. On the other hand the

human population is increasing all the time. This has automatically resulted in a

supply demand gap which in turn increases the price of gold further.

2.3.3.2.b-iv - Immune

Gold has immune from the geo political situations. Throughout the history of

mankind there have been a variety of changes in political landscapes of the different

countries, resulting in a collapse of their monetary system. But gold is not a property

of only one nation. Its value has the same effect on all the currencies.

2.3.3.2.b-v - Diversification

Gold also provides a choice with a diversification in assets. Gold is not dependent on

the values of stocks, securities or bonds. Statistics show that over a period an increase

in value of one commodity has shown a decrease in the value of other commodity.

2.3.3.2.c - Disadvantages of Investing in Gold

Gold investment is no doubt a thrilling option. However they are not free from

limitations. Many investors blindly take decisions on the basis of the ups and downs

in the stock markets and this creates havoc especially when the gold market is

demonstrating a different behavior. Gold investment is very important as it

contributes to the national and international economy. Here are few disadvantages to

invest in gold.




2.3.3.2.c-i - Massive Growth Potential is Curtailed Right Now

Gold has seen a near meteoric rise in value over the last decade, but that has mostly

been exhausted. What that means to potential investors is that gold has much strength,

but massive growth potential is not one of them. The problem for gold in growth

terms is that the market itself is highly evaluated. Everyone knows the value of

investing in gold and that takes away a lot of the opportunity. In other markets, there

are opportunities and sectors where people still have not discovered the potential that

exists. The value of gold is likely to rise slowly in the coming years, but other options

are also available that enjoys rapid growth potential.

2.3.3.2.c-ii - Lack of Constant Revenue from Dividends

With many investment types, like real estate or stocks, investors can reap the rewards

of their investment without having to sell their asset. This happens with dividends,

which comes from stocks and come in the form of rent payments when own a real

estate property. The good thing about dividend earnings is that investor can take the

money from those items and reinvest right back in the investment. Real estate owners

take their money and put it back into the property, adding value. Stock investors

typically just reinvest their dividends automatically in order to purchase more stock.

Gold does not offer any dividends. When investor purchase coins, bars or bullion, he

or she own those items and the value is derived when sell them. This is a downside

that investors have to consider, because many of them depend upon the residuals to

power further investments. Though gold provides a nice, steady, stable investment

type, it does not offer extra “perk” that is often seen a staple of the financial world.

2.3.3.2.c-iii - Must Provide Physical Storage Space for Gold

One of the important things that many gold investors cite as a positive can be

considered a negative by others. Investors who buy gold typically like to have it on

hand. They do this because the entire point of gold is to have something tangible in

case the system itself fails miserably. Though investors can have certificates to

account for their gold ownership, this defeats the purpose of investing in gold in the

first place. With that in mind, if investor own actual physical gold, they need to have

safe place to store it. Because gold coins are small and can be easily stolen, investor




cannot leave them laying around. If it is not properly stored then it can be dangerous

to keep gold in home.

Gold investment has its own advantages and disadvantages and investors are very

well aware about opportunities and threats for investing in gold. But in a current

scenario it is desirable to have solid gold investment in investor‟s portfolio.

2.3.4 Emerging Investment Avenues

According to a study undertaken jointly by Merrill Lynch, Cap Gemini, and Ernst &

Young, high net worth individuals (HNIs) or wealthy investors are proactive in

portfolio management, risk management, consolidation financial assets and use of

diversification strategies as actively as large institutions. HNIs are proactive in

identifying new investment options and take inputs from professional advisors in

volatile market conditions.

HNIs are dynamic in modifying their asset allocation and were among the first

investors to move from equities to fixed income during 2001-2002 period of downturn

in equity markets. They shifted back to equities when they identified favorable market

trends.

Hedge funds and private equity investments such as venture funds are becoming

increasingly popular with wealthy investors to reduce the investment risks related to

stock market fluctuations. This is because these instruments have low correlation with

equity asset class performance. Investment in non-correlated assets, such as

commodities helps to improve diversification of the portfolio during volatile market

conditions.

2.3.4.1 Hedge Funds

Over the last 15 years, hedge funds have become increasingly popular with high net

worth individuals, as well as institutional investors. The number of hedge funds has

risen by about 20 percent per year and the rate of growth in hedge fund assets has

been even more rapid. A hedge fund is a private investment fund, charging a

performance fee and is open to only a limited number of investors. These funds are




like mutual funds, which collect money from investors and use the proceeds to buy

stocks and bonds. They can invest on almost any type of opportunity; in any market

where in good returns are expected with low risk levels.

Hedge funds are investment vehicles that explicitly pursue absolute returns on their

underlying investments. The appellation "Absolute Return Fund" would be more

accurate, not least as not all hedge funds maintain an explicit hedge on their portfolio

of investments. However the "Hedge Fund" definition has come to incorporate any

absolute return fund investing within the financial markets such as stocks, bonds,

commodities, currencies, derivatives, etc, and applying non-traditional portfolio

management techniques including, but not restricted to, shorting, leveraging,

arbitrage, swaps, etc.

Hedge funds can invest in any number of strategies and they are perhaps most readily

identifiable by their structure, which is typically a limited partnership; the manager

acting as the general partner and investors acting as the limited partners, with

performance related fees, high minimum investment requirements and restrictions on

types of investor, entry and exit periods. Usually defined as "Accredited Investors",

various institutions, corporate treasuries, endowments, fund of funds, family offices,

private banks and pensions invest in hedge funds. This can vary from jurisdiction to

jurisdiction, depending on the investing process in question and is something that

each individual should verify within their own jurisdiction prior to investing with a

hedge fund. Put simply, if investor cannot afford to lose money invested then should

not be looking at hedge funds as a viable investment route.

The minimum investment varies from fund to fund. Although some funds are

charging as low as Rs. 500000, these are very much the exception and a common

starting range would be between Rs. 50 lacs to Rs. 1 crores. Established funds can

have much higher minimums depending on the fund and manager. The fund manager

can waive the minimum at his sole discretion but this is usually only undertaken to

accommodate serious investors who stipulate intent to allocated substantially more

than the stated minimum, depending on how this initial allocation performs. Hedge

funds fee structures vary, depending on jurisdiction, domicile and, most importantly,




investor base. The most common fee structure is the standard "1 and 20"; a 1 percent

of assets as management fee and 20 percent of profits as performance fee annually.

2.3.4.1.a Advantages of Hedge Fund

2.3.4.1.a-i - Value - Addition

Where markets are price-efficient, more and more investors adopt a passive approach

since the potential for an active manager to add value is limited. The greatest potential

for adding value is where information is not freely available, i.e. in inefficient

markets, there the potential for active management is larger. Note that there is a

difference between adding value in an informationally inefficient market through

achieving an informational advantage and adding value by picking up a premium for

liquidity in an informationally efficient market. Hedge funds are involved in both.

Hedge fund industry is opaque, i.e. inefficient, the more experienced and skilled

managers should have an edge over the less experienced and skilled. Hedge fund

selection is most likely a value-added proposition.

2.3.4.1.a-ii - Diversification

Portfolio diversification is probably the main reason why institutional investors invest

in hedge funds. The main reason for investing in a portfolio of hedge funds instead of

a single hedge fund is diversification. Investing in a portfolio of hedge funds

significantly reduces individual fund and manager risk.

2.3.4.1.a-iii - Efficient Exposure

A fund allows easier administration of widely diversified investments across a large

variety of hedge funds. Private and small institutional investors are not able to

diversify properly by investing in single hedge funds. The fund of funds approach

allows access to a broader spectrum of hedge funds than may otherwise be available

due to high minimum investment requirements.




2.3.4.1.a-v - Providers of Capacity

Many hedge fund managers are only soft-closed, i.e. they officially announce they are

closed but are still open for high-quality investors. The term high-quality investor is

obviously subjective. However, hedge fund managers prefer sophisticated long-term

investors who understand the merits and risks of the strategy. This reduces the risk

that the investor will pull out of the fund at the worst possible moment. In other

words, a hedge fund manager might prefer a professionally managed pension fund.

2.3.4.1.b - Disadvantages of Hedge Fund

2.3.4.1.b-i - Lack of Transparency

Some investors find it frightening not to know what they are investing in, when

investing in a hedge fund since transparency is lower compared with traditional

managers. In some cases, transparency is diminished still further when investing in

hedge funds because not all fund managers disclose the names of the funds they invest

in. Hedge fund managers might be more willing to disclose information to market

participants who do not trade in the same markets and securities as they do.

2.3.4.1.b-ii - Unfamiliarity

In the most general sense, everything else being equal, something unfamiliar has more

subjective risk than something familiar, i.e. uncertainty is perceived as higher. Many

hedge fund managers are not well known to the decision-maker in an institutional

setup. However, today there is a core of asset management firms that have a track

record of five years or more. Given that the hedge fund industry is newer than the

traditional long-only industry, investors are familiar with the large asset management

institutions but unfamiliar with the newer alternative asset management firms.

2.3.4.1.b-iii - High Cost

The cost of information in the hedge fund industry is high. The main reason is the

persistent opaqueness of the industry. An institutional investor will have to go through

a lengthy due diligence process before the fiduciaries and plan sponsors are prepared

to invest the other people‟s money they were entrusted to manage. The decision




making process for non-institutional investors is faster and less rigid, i.e. cheaper,

than it is for fiduciaries.

2.3.4.1.b-iv - Limited Liquidity

Some investors might find comfort in the fact that most hedge fund managers have a

large portion of their net wealth tied to the fund, i.e. the same long redemption periods

as the investor. A more pragmatic argument for low liquidity is the fact that hedge

funds exploit inefficiencies and therefore are by definition operating in markets that

are less liquid than the bluest of blue chips. In other words, exploiting inefficiencies

by its nature involves some degree of illiquidity. The main reason for a hedge fund to

have a lock-up period however is the benefit of stable capital structure. There are

many opportunities to exploit in periods of market distress.

2.3.4.2 Private Equity Investments / Venture Capital

Starting and growing a business always require capital. There are a number of

alternative methods to fund growth. These include the owner or proprietor‟s own

capital, arranging debt finance, or seeking an equity partner, as is the case with private

equity and venture capital.

Private equity is a broad term that refers to any type of non-public ownership equity

securities that are not listed on a public exchange. Private equity encompasses both

early stage “venture capital” and later stage “buy-out, expansion” investing. In the

broadest sense, it can also include mezzanine, fund of funds and secondary investing.

Venture capital is a means of equity financing for rapidly growing private companies.

Finance may be required for the start-up, development, expansion or purchase of a

company. Venture Capital firms invest funds on a professional basis, often focusing

on a limited sector of specialization etc. The goal of venture capital is to build

companies so that the shares become liquid and provide a rate of return to the

investors in the form of cash or shares that is consistent with the level of risk taken.

With venture capital financing, the venture capitalist acquires an agreed proportion of

the equity of the company in return for the funding. Equity finance offers the

significant advantage of having no interest charges. It is "patient" capital that seeks a




return through long-term capital gain rather than immediate and regular interest

payments, as in the case of debt financing. Given the nature of equity financing,

venture capital investors are therefore exposed to the risk of the company failing. As a

result the venture capitalist must look to invest in companies which have the ability to

grow very successfully and provide higher than average returns to compensate for the

risk.

When venture capitalists invest in a business they typically require a seat on the

company's board of directors. They tend to take a minority share in the company and

usually do not take day-to-day control. Rather, professional venture capitalists act as

mentors and aim to provide support and advice on a range of management, sales and

technical issues to assist the company to develop its full potential. A venture capital

firm typically looks for new and small businesses with a perceived long term growth

potential that will result in a large payout for investors.

A venture capitalist is not necessarily just one wealthy financier. Most venture

capitals are limited partnerships that have a fund of pooled investment capital with

which to invest in a number of companies. They vary in size from firms that manage

just a few lacs rupees worth of investments to much larger venture capitals that may

have crores of rupees invested in companies all over the world. venture capitals may

be a small group of investors or an affiliate or subsidiary of a large commercial bank,

investment bank, or insurance company that makes investments on behalf clients of

the parent company or outside investors. In any case, the venture capital aims to use

its business knowledge, experience and expertise to fund and nurture companies that

will yield a substantial return on the venture capital‟s investment, generally within

three to seven years. Not all venture capital investments pay off. The failure rate can

be quite high, and in fact, anywhere from 20 percent to 90 percent of portfolio

companies may fail to return on the venture capital‟s investment. On the other hand, if

a venture capital does well, a fund can offer returns of 300 to 1000 percent.




2.3.4.2.a - Advantages of Venture Capital

It injects long term equity finance which provides a solid capital base for future

growth.

The venture capitalist is a business partner, sharing both the risks and rewards.

Venture capitalists are rewarded by business success and the capital gain.

The venture capitalist is able to provide practical advice and assistance to the

company based on past experience with other companies which were in similar

situations.

The venture capitalist also has a network of contacts in many areas that can add

value to the company, such as in recruiting key personnel, providing contacts in

international markets, introductions to strategic partners, and if needed co-

investments with other venture capital firms when additional rounds of financing

are required.

The venture capitalist may be capable of providing additional rounds of funding if

requires.

2.3.4.2.b - Disadvantages of Venture Capital

2.3.4.2.b-i - Superior Businesses

Venture capitalists investor look for companies with superior products or services

targeted at large, fast growing or untapped markets with a defensible strategic position

such as intellectual property or patents.

2.3.4.2.b-ii - Quality and Depth of Management

Venture capitalists must be confident that the firm has the quality and depth in the

management team to achieve its aspirations. Venture capitalists seldom seek

managerial control, rather they want to add value to the investment where they have

particular skills including fund raising, mergers and acquisitions, international

marketing, product development, and networks.

2.3.4.2.b-iii - Appropriate Investment Structure

As well as the requirement of being an attractive business opportunity, the venture

capitalist will also seek to structure a deal to produce the anticipated financial returns

to investors. This includes making an investment at a reasonable price per share.




2.3.4.2.b-iv - Exit Opportunity

Lastly, venture capitalists look for the clear exit opportunity for their investment such

as public listing or a third party acquisition of the investee company.

Once a short list of appropriate venture capitalists has been selected, the entrepreneur

can proceed to identify which investors match their funding requirements. At this

point, the entrepreneur should contact the venture capital firm and identify an

investment manager as an initial contact point. The venture capital firm will ask

prospective investee companies for information concerning the product or service, the

market analysis, how the company operates, the investment required and how it is to

be used, financial projections, and importantly questions about the management team.

2.3.4.3 - Chit Fund

Chit funds have been a popular savings scheme in several parts of India. It has paved

it‟s way as a convenient finance option amongst businessmen, small scale

industrialists and other small time investors. Though very often shrouded by news of

fraudulence, they have still managed to retain their popularity. Chit funds evolved

years ago, when the present system of banking did not exist. Few families in a village

would get together to form a chit or a group, to save money and to avail of loans

amongst the group formed. A sensible person is chosen to manage the group. This

informal system of saving prevailed only on trust. Gradually, as groups became larger

and the money involved became huge, many companies started chit fund schemes

with attractive offers. Thus to provide regulation for chit funds and for matters

connected therewith, the government introduced the Chit Funds Act in 1982.

A chit fund is a savings and borrowing scheme, in which a group of people enter into

an agreement to contribute fixed amounts periodically for a specified period of time.

The amount so collected or the chit value is distributed among each of the persons in

turns, which is determined by way of lots or an auction. Chit funds provide an

opportunity to save excess cash on a daily, weekly or monthly basis, and give an easy

access to it in case of emergency. Chit fund schemes possess a predetermined chit

value and duration. The amount collected from members is auctioned out every

month. Bidders can bid up to a maximum of this total collected value. The difference

between the gross sum collected and the actual auction amount, known as the




discount, is then equally distributed among subscribers, or, is deducted from the next

month‟s premium.

2.3.4.3.a - Benefits of Investing in Chit Fund

It inculcates the habit of compulsory regular saving.

It earns dividends every month. So the net effective rate of return proves to be

pretty attractive.

For any unexpected financial requirement, bidding for the lump sum amount,

could prove to be a better option than going through the hassles of a loan.

Chit fund investments are not affected by any market fluctuations.

Finance option through chit funds are easier to repay through the remaining

monthly installments.

2.3.4.3.b - Drawbacks of Investing in Chit Fund

Chit-funds do not offer any predetermined or fixed returns. Higher returns are earned

when there are more number of members in the group or if the duration of the scheme

is longer. One would earn more, when more members need emergency funds. Thus

returns cannot be calculated and decided when one joins the scheme. With the

plethora of chit fund companies around, the safety of a chit fund lies in choosing the

right one. In a registered chit fund company, under legal binding, the activities are

regulated and institutionalized by the chit fund act, and hence could be considered

safe. However, other unregistered companies operating informally do exist. One

needs to exercise caution while choosing where he desires to invest.

Chit funds definitely are an attractive option for regular saving. It inculcates a

disciplined approach to financial planning. It has the added advantage of bringing a

combination of savings as well as hassle free borrowing. This dual purpose

investment tool could be a friend in need at times of unexpected financial

emergencies.




2.3.4.4 Depository Receipts

Depository receipts are a type of negotiable financial security, representing a security,

usually in the form of equity, issued by a foreign publicly listed company. However,

DRs are traded on a local stock exchange though the foreign public listed company is

not traded on the local exchange. Thus, the DRs are physical certificates, which allow

investors to hold shares in equity of other countries. This types of instruments first

started in USA in late 1920s and are commonly known as American depository

receipt (ADR). Later on these have become popular in other parts of the world also

in the form of Global Depository Receipts (GDRs). Some other common types of DRs

are European DRs and International DRs.

In nut shell ADRs are typically traded on a US national stock exchange, such as the

New York stock exchange (NYSE) or the American stock exchange, while GDRs are

commonly listed on European stock exchanges such as the London stock exchange.

Both ADRs and GDRs are usually denominated in US dollars, but these can also be

denominated in Euros.

When a foreign company wants to list its securities on another country‟s stock

exchange, it can do so through depository receipts (DR) mode. To allow creation of

depository receipts, the shares of the foreign company, which the depository receipts

represent, are first of all delivered and deposited with the custodian bank of the

depository through which they intend to create the depository receipts. On receipt of

the delivery of shares, the custodial bank creates depository receipts and issues

the same to investors in the country where the depository receipts are intended to be

listed. These depository receipts are then listed and traded in the local stock

exchanges of that country.

ADRs were introduced with a view to simplify the physical handling and legal

technicalities governing foreign securities as a result of the complexities involved in

buying shares in foreign countries. Trading in foreign securities is prone to number of

difficulties like different prices and in different currency values, which keep in

changing almost on daily basis. In view of such problems, U.S. banks found a simple

methodology wherein they purchase a bulk lot of shares from foreign company and




then bundle these shares into groups, and reissue them and get these quoted on

American stock markets. For the American public ADRs is simplify investing. So

when Americans purchase Infy (the Infosys Technologies ADR) stocks listed on

NASDAQ, they do so directly in dollars, without converting them from rupees. Such

companies are required to declare financial results according to a standard accounting

principle, thus, making their earnings more transparent. An American investor

holding an ADR does not have voting rights in the company. The above indicates that

ADRs are issued to offer investment routes that avoid the expensive and cumbersome

laws that apply sometimes to non-citizens buying shares on local exchanges. ADRs

are listed on the NYSE, AMEX, or NASDAQ.

2.3.4.4.a - Indian Depository Receipts (IDR)

SEBI has issued guidelines for foreign companies who wish to raise capital in India

by issuing Indian depository receipts. Thus, IDRs will be transferable securities to be

listed on Indian stock exchanges in the form of depository receipts. Such IDRs will be

created by domestic depositories in India against the underlying equity shares of the

issuing company which is incorporated outside India. Though IDRs will be freely

priced, yet in the prospectus the issue price has to be justified. Each IDR will

represent a certain number of shares of the foreign company. The shares will not be

listed in India, but have to be listed in the home country. The IDRs will allow the

Indian investors to tap the opportunities in stocks of foreign companies and that too

without the risk of investing directly which may not be too friendly. Thus, now Indian

investors will have easy access to international capital market.

Depository receipts are allowed to be exchanged for the underlying shares held by the

custodian and sold in the home country and vice-versa. SEBI has issued guidelines for

issuance of IDRs in April, 2006. Some of the major norms for issuance of IDRs are as

follows.




2.3.4.4.b - Eligibility Conditions for Overseas Companies to Issue

IDRs:

The overseas company intending to issue IDRs should have paid up capital and

free reserve of at least Rs. 10 Crores.

It should have an average turnover of Rs. 50 Crores during the last three years.

Such company should also have earned profits in the last 5 years and should have

declared dividend of at least 10 percent each year during this period.

The pre-issue debt equity ratio of such company should not be more than 2:1.

The issue during a particular year should not exceed 15 percent of the paid up

capital plus free reserves.

IDRs would not be redeemable into underlying equity shares before one year from

date of issue.

IDRs would be denominated in Indian rupees, irrespective of the denomination of

underlying shares.

In addition to other avenues, IDR is an additional investment opportunity for

Indian investors for overseas investment.

Minimum issue size is of Rs. 50 Crores.

The minimum investment required in the IDR issue by the investors has been

fixed at Rs. 20 lacs.

Non-resident Indians and foreign institutional investors (FIIs) have not been

allowed to purchase or possess IDRs without special permission from the Reserve

bank of India (RBI).

The IDR issuing company should have good track record with respect to securities

market regulations and companies not meeting the criteria will not be allowed to

raise funds from the domestic market.

If the IDR issuer fails to receive minimum 90 percent subscription on the date of

closure of the issue, or the subscription level later falls below 90 percent due to

cheques not being honored or withdrawal of applications, the company has to

refund the entire subscription amount received.

In case of delay beyond eight days after the company becomes liable to pay the

amount, the company shall pay interest at the rate of 15 percent per annum for the

period of delay.




2.3.4.4.c - Advantages of IDRs

For individuals, IDRs is an easy and cost effective way to buy shares of a foreign

company.

The individuals are able to save considerable money and energy by trading in

IDRs, as it reduces administrative costs and avoids foreign taxes on each

transaction.

Investors prefer IDRs, because they get more international exposure and it allows

them to tap the international equity markets.

2.3.4.4.d - Challenges for IDRs

Indian investors need to consider the tax implications of investment in the IDRs.

While section 605A of the companies‟ act 1956 discusses IDRs, there are no

specific provisions regarding capital gains taxation of IDRs in the companies act

or in the income tax act, 1961. Therefore, the general rules relating to capital

gains taxation apply and no benefits for long term holders of IDRs are available,

but if the securities transaction tax is paid, there is no capital gains tax on long

term holders of listed securities.

There is the possibility of IDR issues being undersubscribed if they are not well

marketed or fail to catch the imagination of investors.

The stringent eligibility criteria, disclosure and corporate governance norms could

result in higher compliance costs for companies seeking to tap the Indian capital

markets.

Current regulations do not provide for the exchange of equity shares into IDRs

after the initial issuance i.e. reverse fungibility is not allowed.

Risks are involved given that the same shares would be simultaneously trading in

other market say; London, Hong Kong etc,

It is not entirely clear whether IDR holders will have voting rights or not; the

SEBI guidelines do not specifically mention voting rights, it leaves that to the

discretion of the issuer.

Indian financial markets are still considered volatile and contain emerging market

risk.




2.4 Rationale for Mutual Funds

Mutual funds offer several advantages over investing in other investment products. A

comparative look at the various investment products which are available in the

market for the purpose of tax saving would help investor to make an informed

decisions for investment and may find mutual funds option more attractive in terms of

comparatively shorter lock in period and superior returns. Following table shows the

comparative analysis between different investment avenues.

Table – 2.2 - Comparative Analysis between Investment Avenues

Type of Investment Return Safety Risk Liquidity

Treasury Bills Moderate or Low High Low High

Certificate of Deposits Moderate or Low High Low High

Commercial Paper Moderate or Low High Low High

Dated Govt. Securities Moderate or Low High Low High

Equity Shares High / Moderate Low High High/Low

Preference Shares Moderate Moderate Moderate Low

Debentures / Bonds Moderate Moderate Moderate Low

Bank Deposits Moderate or Low High Low High

Post Office Deposits Moderate or Low High Low Moderate

Provident Fund Moderate or Low High Low Moderate

Employee Provident Fund Moderate or Low High Low Moderate

Insurance Schemes Moderate or Low High Low Low

Mutual Funds High High or Moderate High High

Real Estate High or Moderate High or Moderate High Low

Gold/Silver Moderate or Low High Moderate Moderate

Although the table provides a qualitative evaluation of various financial products, the

comparison serves as a useful guide towards determining the best option. It is clear

from the above that equity investing in general has good potential in terms of return,

liquidity and convenience. However, as discussed in the previous section, individual

stocks can give varied performance, one stock being more liquid than another or one

stock giving lower return than another. For this reason, equity investing is fraught




with risk and is not ideal for every individual investor. It is recommended only for

investors who are willing to invest the time required for research in stock selection or

have access to sound financial advices and possess the capacity to bear the inherent

risk.

Bonds/Debentures issued by institutions are an attractive option. Bonds are a stable

option in terms of fixed returns, and are recommended for the risk averse investors.

However, bonds can lose value when general interest rates go up. Bonds are also

subject to credit risk or risk of default by the borrower. In case of corporate bonds, the

risk must be assessed in terms of the strength of the borrower as indicated by the

credit rating assigned to the bonds. In the absence of credit rating, it is extremely

difficult for the investor to decide on the quality of the bonds or debentures. The

secondary market in corporate bonds in India is also very thin, leading to lack of

liquidity for the investors who wish to sell.

Treasury bills, commercial paper and government securities fall short on several

counts like return capital appreciation. Certificate of deposits also fall short on several

counts and are recommended only if the issuing company and the deposits on offer

are rated highly by credit rating agencies.

The major advantage of bank deposits relative to other products is the liquidity they

offer. Banks are usually willing to give loans against fixed deposits at a nominal

charge over the interest rate applicable to the deposits. Deposits rates offered by banks

vary as per RBI directives and the interest rate scenario in the economy. Bank

deposits score high on safety, as the return of capital is guaranteed to the depositor by

the bank. However, the financial soundness of the bank is important to look at.

PPF/EPF and post office deposits combine stability with a respectable return. Its tax

exempt status makes it an attractive mechanism for the small investor to build his

savings portfolio. However the lock in period involved in PPF/EPF and post deposits

means that the investor loses out in terms of liquidity, particularly during the early

years of the scheme. Being a government supported investment, PPF scores very high

on safety, compared to bank deposits.




Insurance could become a serious investment vehicle once the insurance market in

India is opened to private players. In today‟s scenario the opportunity cost in terms of

return is too high for insurance to be compared on even terms with the other options.

Its liquidity is also extremely low, though safety is considered high at present for the

government owned LIC as the only insurer.

Some of the reasons that go strongly in favor of mutual funds are their lowest risk

factors owing to diversification of assets in to various sectors and scripts or

instruments within. As with the risk, the costs of unit share too are spread across

making them affordable by almost any one. Fund managers allocate available funds

in a specified proportion among various instruments of investments. Consider a fund

being well diversified across the spectrum of exchange listed stocks and bonds which

yield a guaranteed return in addition to being invested in money markets and real

estates.

From the comparative analysis provided above, it emerges that each investment has

its strengths and weakness. Some options seek to achieve superior returns, but with

correspondingly higher risk. Other provide safety, but at the expense of liquidity and

growth. Options such as bank deposits offer safety and liquidity, but at the cost of

return. Mutual funds seek to combine the advantages of investing in each of these

alternatives while dispensing with the shortcomings. Clearly, it is in the investor‟s

interest to focus his investment on mutual funds.

As has been discussed, mutual funds offer several benefits that are unmatched by

other investment options. Post liberalization, the industry has been growing at a rapid

pace and has crossed Rs. 700000 crores size in terms of its assets under management.

However, the inflow under the industry is yet to overtake the inflows in banks. Rising

inflation, falling interest rates and a volatile equity market make a deadly cocktail for

the investor for whom mutual funds offer a route out of the impasse. The investments

in mutual funds are not without risks because the same forces such as regulatory

frameworks, government policies, interest rate structures, performance of companies




etc, that rattle the equity and debt markets, act on mutual funds too. But it is the skill

of the managing risks that investment managers seek to implement in order to strive

and generate superior returns than otherwise possible that makes them a better option

than many others.

The above description proves the superiority of mutual funds among all other

investment avenues. So, the researcher has opted this investment avenue for further

thorough research purpose.

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