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Investment Risk Management
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Investment
Investment is the employment of money or capital in
order to gain profitable returns, as interest, income, orappreciation in value, over a given point of time.
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Characteristics of Investment1. It is not saving
2. Employment of capital takes place
3. Risk related constraints exist4. Time horizon depend on risk-return profile
5. Capital appreciation may or may not happen
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Importance of Investment1. Financial Independence
2. Increase wealth
3. Fulfilling personal & family goals4. To beat inflation
5. Preparation for adverse condition
6. For the growth of country
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Investment alternatives1. Non-Marketable Financial Assets
2. Equity Shares
3. Bonds4. Money Market Instruments
5. Commodities
6. Mutual Fund
7. Life Insurance Policies
8. Real Estate
9. Precious Objects
10. Financial Derivatives
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Criteria for evaluation of
investmenty Rate of Return
y Risk
y Marketability : liquid, low cost, less volatiley Tax Shelter
y Convenience
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Return
It is the reward for the employing capital or asset over
a given point of time.
0r
Reward for the investment
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Components of Return1. Current Return
2. Capital Return
Total Return = Current return + Capital Return
Note: Current Return may be +ve or zero, whereascapital return ve, zero or +ve.
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Rate of return = Annual Income + (ending price Beginning price) / Beginning Price
R = C + (Pe Pb) / Pb
Eg.Price at beg. Rs. 60
Dividend paid towards the end of the year Rs. 2.40
Price at the end of the year Rs. 66
What is Total return, current return & Capital Return?
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RiskRisk refers to the possibility that actual outcome of an
investment will differ from its expected outcome.
Sources of Risk
1. Business risk
2. Interest risk
3. Market Risk
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Types of RiskBroadly we can it divide on the basis its nature
1. Systematic riskEg. Market Risk, Interest risk, Inflation etc
2. Unsystematic risk
Eg. Financial Risk , Business Risk
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Risk-Return relationship
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y The relationship between risk and return is a fundamentalfinancial relationship that affects expected rates of returnon every existing asset investment. The Risk-Returnrelationship is characterized as being a "positive" or "direct"
relationship meaning that if there are expectations of higher levels of risk associated with a particular investmentthen greater returns are required as compensation for thathigher expected risk. Alternatively, if an investment hasrelatively lower levels of expected risk then investors aresatisfied with relatively lower returns.
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-This risk-return relationship holds for individual investors and
business managers. Greater degrees of risk must be compensated
for with greater returns on investment. Since investment returnsreflects the degree of risk involved with the investment, investors
need to be able to determine how much of a return is appropriate
for a given level of risk. This process is referred to as "pricing the
risk". In order to price the risk, we must first be able to measure
the risk (or quantify the risk) and then we must be able to decide
an appropriate price for the risk we are being asked to bear.
-This module provides the student with an understanding of
various forms of risk that allow the incorporation of risk
adjustments into financial management decision making and theasset pricing processes. In the introductory discussions, different
types of risk are defined and explored. At more advanced levels,
various definitions of risk are quantified and with the help of
financial theory, appropriate risk adjusted returns are