LECTURE NOTES ON

INVESTMENT ANALYSIS AND PORTFOLIO MANAGEMENT

PART 1

SUDHANSHU PANI

DRAFT - JAN 2019

DISCLAIMER:

THIS IS A FIRST DRAFT AND HENCE ERROR PRONE. PLEASE DO NOT QUOTE. IT CONTAINS

MATERIAL THAT WILL BE FOLLOWED IN THE CLASSROOM. IT IS NOT THE RECOMMENDED TEXT

BOOK. RATHER A COMPANION TO CLASSROOM. DUE CREDITS HAVE BEEN GIVEN TO REFERENCES.

Chapter 1: INTRODUCTION TO THE

INVESTMENT ENVIRONMENT

Categories of Financial Markets

Categories of Assets Classes

Categories of Exchanges

Categories of Indexes

Managed Portfolios-Mutual Funds, Hedge Funds, Pension and Endowment funds

The various players and institutions in the Financial Markets

Example: Refer the following slides from the JPMorgan – Guide to Investing -Asia 2018. This is a

sample of the information that investors peruse and a glimpse of the approach they use. The objective

of this course is to understand such investment process and use investment process to manage money.

RECALL:

The factors of production – Land, labour, Capital and Entrepreneurship.

Sectors in the economy – Household, Firms, Government

The effective role of real assets and financial assets in the above two determines how

efficiently an economy is able to perform. Real assets – land, factories, knowledge, machines,

produce goods and services, while financial assets help in problem of allocation of capital

better by moving capital into areas that need capital and give better returns.

1.1 Categories of Financial Markets

Financial markets may be described as markets that are involved in exchange of securities.

Here the buyer exchanges the currency with the seller who holds the security of an asset.

Important aspects of a financial market:

1) Cash – An I-owe-U from the sovereign

2) Security – confirmation of ownership of an asset

3) Market place – where assets can be traded

4) Buyers and sellers

5) Supply and demand

6) Capital Markets: Capital Markets help firms and governments raise capital by issuing

securities such as equities and bonds. These securities are issued for various tenor.

Primary capital markets deal with first time or followup issuances and secondary

security markets deal with the trading of these securities. Equity gives an ownership

stake in the company to the holder while the bond holder gets a promise of a stream of

interest payments. Stocks/Shares, Short term bonds, Long term bonds, Masala Bonds,

G-Sec, Non-Convertible Debentures, Optionally Convertible debentures.

7) Money Markets: The money market deals with securities with maturity dates less than

1 year (?? Is this a correct understanding). These are issued by the government or

Firms. In India, the RBI acts as the money manager for the government. The tenors

range from the overnight market among the banks to 365 day T-bills. Treasury bills,

Certificates of Deposit, commercial paper, Repo, Reverse Repo.

As a rule – investments is about a play on time, longer time=>higher risk

The consideration – i.e transaction valuation is based on the stream of cash.

But this is not the area of our discussion.

8) Derivatives Markets: These are artificial markets. Securities / contracts are issued that

will have a well-defined way of valuing the issuance. Usually Derivatives contracts

have value based on an underlying asset. Common derivatives include forwards,

futures, options and swaps. Widely used to hedge and speculate or execute an

investment view.

India has a distorted market where the derivative segment is 8-10 times the

size of the cash market. Derivatives provide leverage, lower transaction

costs and lower tax incidence (??)

9) Forex Markets : It is a a large-interconnected international market. A market that

never sleeps as currency is traded in some part of the world at every instance

depending on time zone. Forex markets are usually OTC (over the counter) markets

and based on demand and supply. Currency derivatives or ETFs are not part of this

market.

10) Commodity Markets: Markets such as the LME (London Metal Exchange) and

mercantile exchanges such as those in Chicago(CBOE), Singapore, Hongkong etc

11) Electricity markets

12) Cryptocurrency markets

Exchanges

13) Stock exchanges

14) Foreign currency exchanges

.

1.2 Categories of Assets Classes Equity- Domestic / International listed / Private equity

Residual claim, limited liability

Debt

Can you check out the yield curve today. Or Look at the yields from all debt

instruments today.

Land

Real estate

Gold

Crypto-currency

Structured Products – Equity linked derivatives

Alternate Investment products

1.3 Categories of Exchanges An exchange is an example of an organized market that facilitates trading of assets.

Important features here include facilitation of price discovery (facilitation of finding

buyers and sellers through an online platform or common location), trading, clearing,

settlement, counterparty risk management and surveillance to keep the markets

orderly according to the law / regulations.

Stock markets, Derivative markets – NSE, BSE

Bond markets – NSE, BSE, Metropolitan Exchange

Bullion exchanges – NCDEX, MCX

Primary dealers market

Bitcoin exchanges

Commodity exchanges – NCDEX, MCX

1.4 Categories of Indexes An index tracks the change in the prices of an asset. It is used to compare the

performance of an asset, or the manager. It starts with a normalized value with a base

year. Widely used in the investments industry to measure performance. Most funds

have a mandate to beat their benchmark i.e provide a relative return. Absolute return

funds try to achieve an absolute return irrespective the performance of their

benchmark. Indexes are further used to create derivative products and exchange

traded funds.

Examples:

NIFTY 50

SENSEX

BSE 500

NSE 500

BSE, NSE -100

BSE, NSE – 200

Various other benchmark indices exist. Check the benchmark for the popular funds

you know.

1.4.1 Nifty Construction – Highlights The NIFTY 50 is a 50 stock, float-adjusted market-capitalization weighted index for

India. It is used for a variety of purposes, such as benchmarking fund portfolios, index

based derivatives and index funds.

The NIFTY 50 is derived from economic research and is created for those interested

in investing and trading in Indian equities.

Market Representation: The NIFTY 50 stocks represent about 65% of the total float-

adjusted market capitalization of the National Stock Exchange (NSE).

Liquidity: Market impact cost is the best measure of the liquidity of a stock. It

accurately reflects the costs faced when actually trading an index. For a stock to

qualify for inclusion in the NIFTY 50, it has to reliably have market impact cost

below 0.50 %, when doing NIFTY 50 trades of Rupees (Rs) 10 crores.

What is the difference in construction between BSE Sensex and NSE Nifty?

Price Return Index vs Total Return Index

Price return index calculates the returns only on the basis of prices. Total return index

also adds the dividends, interest and any other cash flow. SEBI has made TRI

mandatory for funds.

1.5 Managed Portfolios-Mutual Funds, Hedge Funds, Pension and

Endowment funds Asset portfolios are managed by individuals and institutions who specialize in these

functions and thus help the small savers or asset owners.

1.5.1 Mutual Funds

Example factsheet– ICICI Prudential Bluechip Fund

1.5.2 Refer Morning Star Category Definitions to get a flavor of Mutual funds

as an Asset class.

Equity

Large-Cap

Mid-Cap

Multi-Cap

Large & Mid Cap

Small Cap

Value Funds

Contra Funds

Dividend Yield Funds

Focused Funds

Sector Funds

Energy

Financial Services

FMCG

Healthcare

Precious Metals

Technology

Infrastructure

Other

Global - Other

Index

ELSS

Fixed Income

Ultra Short duration

Low Duration

Money Market

Short Duration

Medium Duration

Medium to Long Duration

Long Duration

Dynamic Bond

Corporate Bond Funds

Credit Risk

Banking & PSU

Government Bond

10 yr Government Bond

Floating Rate

Fixed Maturity Intermediate-

Term Bond

Fixed Maturity Short-Term

Bond

Fixed Maturity Ultrashort

Bond

Allocation

Conservative Allocation

Balanced Allocation

Aggressive Allocation

Dynamic Asset Allocation

Multi Asset Allocation

Equity Savings

Retirement

Children's

Fund of Funds

1.5.3 Portfolio Management Services (PMS)

REPORT OF PORTFOLIO MANAGERS - As on October 31, 2018

REPORT OF PORTFOLIO MANAGERS - As on October 31, 2018

PMs reported for the month - 285

Discretionary# Non-Discretionary Advisory*

No. of Clients 130337 6203 2574

AUM (Rs. Crore) 172422.40

Listed Equity 98375.57 16454.71

Unlisted Equity 563.87 58.88

Plain Debt 1091145.11 70572.92

Structured Debt 317.07 355.40

Equity Derivative 474.95 -1.60

Mutual Fund 10809.26 10073.09

Others 15448.86 983.78

Total 1,217,134.69 98,497.18

Grand Total 1,488,054.27

Notes :

1. *Value of Assets for which Advisory Services are being given.

2. #Of the above AUM Rs. 1063208.34 Crore is contributed by funds from EPFO/PFs.

3. The above data is based on the monthly reports received from portfolio managers.

Total No of clients AUM (in Rs. Crore)

Month Discretionary Non-

Discretionary

Advisory Discretionary1 Non-

Discretionary

Advisory2

Dec-10 67417 3685 8078 267433 6902 88611

Dec-11 68932 4742 9215 318433 15815 73167

Dec-12 56619 7996 11134 477939 26026 81220

Dec-13 43159 5098 9918 552721 37164 132348

Dec-14 38849 3207 4165 662464 45035 160885

Total No of clients AUM (in Rs. Crore)

Dec-15 53874 3598 2274 784496 56799 199788

Dec-16 65745 4695 2037 920092 70242 185133

Dec-17 102334 5278 1836 1115754 87858 215635

Oct-18 130337 6203 2574 1217134 98497 172422

1 Includes funds from EPFO/PFs

2Value of Assets for which Advisory Services are being given

1.5.4 Hedge funds in India

PERFORMANCE OF HEDGE FUNDS IN INDIA

Ashok Banerjee and Bobbur Abhilash Chowdary

http://indiafa.org/performance-hedge-funds-india/

Ashok Banerjee, Ph.D., is Professor, Finance and Control, Indian Institute of Management

Calcutta (IIM-C). Bobbur Abhilash Chowdary is a doctoral student in Finance and Control

Department of IIM, Calcutta.

Hedge fund industry is drawing media attention in India. Recently Avendus Capital has

reported as the first domestic hedge fund to have $1 billion asset under management.[1] A

hedge fund is an alternative investment fund (AIF), which employs diverse or complex

trading strategies and invests and trades in securities having diverse risks or complex

products including listed and unlisted derivatives.[2] AIFs are classified into three broad

categories. While category I AIF includes Angel, venture capital, social and infrastructure

funds, category II includes private equity, real estate, distressed and PIPE funds. Hedge funds

are classified as category III AIFs as per SEBI regulations. There are currently 346 AIFs

registered with SEBI. The Indian income tax law is not very supportive of AIFs; particularly

for hedge funds. Income accruing to category I and category II AIFs, registered with SEBI, is

taxed at the investor and not at the fund level. However, category III AIFs are not accorded

pass through status. In other words, any income or gain of category III AIFs is taxed at the

fund level. This is contrary to the taxation on mutual funds, where tax is charged at investors‘

level. This provision leads to increase in the operating costs of hedge funds. In fact, hedge

funds are not clearly defined in the income tax laws in India. If any AIF, irrespective of

category, suffers a loss, such loss has to be absorbed at the fund level and cannot be passed

on to the investors. This is quite a punitive provision and calls for review. Like income or

gains, losses should be given pass through status.

High net worth individuals and institutional investors are allowed to invest in risky AIFs.

Each scheme of AIF should have a minimum corpus of Rs. 200 million and the minimum

investment amount by any investor is pegged at Rs.10 million. Private equity (PE) and

venture capital (VC) are the most popular AIF followed by real estate funds; hedge funds

come as distant fourth.[3] Alternative Assets under management in India is very small

compared to USA ($2.8 trillion), UK ($495 billion and China ($265 billion). However, the

Indian market has huge growth potential- it grew by 55% in 2017.

There are several important differences between hedge funds and PE (and similarly VC)

funds. Managers of hedge funds have flexibility to buy or sell a wide range of assets. PEs can

hold long only portfolios. Hedge funds can take leverage positions, which PE cannot. Hedge

funds normally seek to make profits from market inefficiencies (mispricing), rather than

purely relying on economic growth to drive returns. While hedge funds have low holding

period (sometimes even intraday), PEs have much longer holding period (5-7 years).

Managers of hedge funds are pure financial investors, whereas PE investment comes with

some degree of operational control on the investee company. Since investment horizon for

hedge funds is relatively short, performance of such funds is estimated on monthly/quarterly

basis. PE funds see returns only after 5-7 years. Private equity investors simply cannot

withdraw capital before the end of a fund‘s life.

Investment Strategies

The returns of a hedge fund depend on the manager‘s skill, as well as on market conditions.

The source of returns (skill vs. market) varies significantly depending on the investment

strategies adopted by hedge funds. Broadly, investment strategies of hedge funds include

directional and market neutral strategies. Directional investment strategies aim to capture

market trend (going long during uptrend and short during downtrend) and market neutral

strategies seek to generate absolute returns independent of market conditions. Successful

hedge fund managers generate alternative beta and skill alpha. While the traditional sources

of beta are the stock market spreads (for equity assets), alternative sources of beta are

liquidity, volatility, beta of commodity markets etc. Similarly, structural alpha is driven by

regulatory advantage that hedge funds enjoy and the latitude offered by having no

benchmark. Alpha linked to the manager‘s skill (ability to pick right assets at the right time)

is known as skill alpha.

Common investment strategies followed by hedge funds are listed below:

Directional Strategy: This strategy seeks to take advantage of major market trends rather than

trends observed in individual stocks. Managed futures and global macro strategies are two

examples of directional investment strategies. Managed futures refers to taking a bet on the

forward curves of futures contract. If a near-month futures contract is over-priced compared

to a far-month futures contract on the same underlying asset, one may short the near-month

contract and go long the far month contract. Global macro strategies apply macroeconomic

views to global markets to decide entry/exit strategies. Instead of analysing macroeconomic

events affecting companies or assets, they view the world from a top-down perspective (e.g.,

a manager taking a pessimistic view on UK currency, GBP vis-à-vis US dollar weeks before

the referendum on Brexit and shorting GBP).

Long Bias and Short Bias: A fund with long bias strategy takes mostly long positions on the

market. On the other hand a fund with Short bias strategy takes mostly short positions. Long

(short) bias also includes net long (short) portfolios. Typically long (short) bias indicates

bullish (bearish) view about the underlying asset.

Arbitrage Relative Value: This strategy involves simultaneous buying and selling of two

closely related securities whose prices have diverged ―relative‖ to each other. Typically these

securities are very highly correlated. Both the securities could be from one asset class (e.g.

equity, debt, futures, options etc.) or multiple asset classes. This strategy has potential to

generate returns even when the market is moving sideways. One popular example of relative

value arbitrage strategy is pairs trading.

Fundamental: In this strategy a fund manager takes fundamental factors, which affect the

security returns, into consideration in making investment decisions.

Bottom Up: A strategy in which fund starts with analysis of specific securities and later on

move on to industry and other macro analysis.

Top Down/Macro: This is exact opposite of Bottom Up approach. In this strategy the fund

manager starts off with macro analysis and then slowly moves onto analysis of specific

securities.

Opportunistic: In this strategy a fund manager opportunistically employs one or more

strategies which he believes can generate the best return for that asset class

Systemic Quant: When a fund manager uses algorithms to evaluate the market, the fund is

said to follow Systemic Quant strategy. Managers typically use price, volume, volatility and

liquidity information to develop quant strategies.

Performance

The five-year (2013-2017) average performance of hedge funds in India was better than

performance in many other countries (table 1). Indian hedge funds reported an average

annualised return of 18%. The average monthly returns of hedge fund in India were even

higher in comparison to the performance of ETFs. ETFs generated lower return with greater

risk, thereby reporting a lower sharp ratio. It is important to note here that fund performance

should not be judged by returns alone- one should rather look at risk-adjusted returns. Indian

hedge funds have generated better returns at greater risk (standard deviation of returns) with

higher drawdowns. One may argue that hedge funds in India have still outperformed (on risk-

adjusted basis) Europe and USA. Within country, hedge fund has higher risk-adjusted return

(mean return divided by standard deviation) than ETFs. Since hedge funds normally generate

absolute returns, there is no need to compare their performance with any benchmark.

Table 1: Average Performance of Hedge Fund Industry

Asset Type Country

Mean

Monthly

Return

(%)

Standard

Deviation

of Monthly

Returns

(%)

Worst

Month

Performance

(%)

Best Month

Performance

(%)

Average

Performance

in Positive

Months (%)

Average

Performance

in Negative

Months (%)

Percentage

of Months

with

Positive

Return

Max

Draw

Down

(%)

Hedge Asia/Asia- 1.00 2.51 -4.75 8.19 2.06 -1.66 71.67 -9.11

Funds Pacific

Hedge

Funds Europe 0.59 2.28 -5.16 7.98 1.95 -1.30 58.33 -12.44

Hedge

Funds Global 0.51 1.88 -4.21 7.69 1.44 -1.36 66.67 -4.61

Hedge

Funds India 1.53 3.00 -8.24 9.74 2.71 -2.37 76.67 -13.39

Hedge

Funds USA 0.85 2.13 -3.72 8.41 1.88 -1.22 66.67 -4.18

ETFs SENSEX 1.12 3.74 -7.45 10.51 3.48 -2.43 60.00 -19.91

ETFs NIFTY 1.15 4.18 -7.76 11.37 4.15 -2.52 55.00 -20.70

Source: Thompson Reuters Lipper. Authors’ calculations

Different investment strategies provide mixed results. While the systematic quant strategy

reported highest average returns (table 2), it comes at a greater risk. The directional

strategies, on the other hand, have minimum downside risk and lower standard

deviation. Surprisingly, short bias has performed better than long bias strategy with positive

returns in seventy five per cent of months.

Country

Mean

Monthly

Return

(%)

Standard

Deviation

of Monthly

Returns

(%)

Worst Month

Performance

(%)

Best Month

Performance

(%)

Average

Performance

in Positive

Months (%)

Average

Performance

in Negative

Months (%)

Percentage

of Months

with

Positive

Return

Max Draw

Down (%)

Arbitrage

Relative Value 1.74 3.40 -11.26 9.39 3.00 -2.40 76.67 -17.40

Bottom Up 1.70 3.46 -8.65 12.02 3.16 -2.68 75.00 -13.42

Directional 1.31 2.87 -6.23 10.46 2.58 -2.17 73.33 -10.37

Fundamental 1.57 3.58 -8.68 13.30 3.37 -2.30 68.33 -13.31

Long Bias 1.65 3.71 -9.01 12.25 3.38 -2.75 71.67 -14.22

Opportunistic 1.33 4.08 -8.18 12.84 3.41 -3.15 68.33 -18.57

Short Bias 1.85 3.88 -10.55 13.09 3.48 -3.02 75.00 -15.20

Systematic Quant 1.91 4.02 -10.51 13.04 3.64 -3.26 75.00 -15.04

Table 2: Strategy-wise Performance

Source: Thompson Reuters Lipper. Authors’ calculations

There has been consistent decline in the number of strategies adopted by hedge fund

managers in India over the past five years (table 3). One can observe maximum decline in

relative value arbitrage strategies, followed by long bias strategies. It does not necessarily

mean that Indian financial markets have been bearish during the period 2013-17. One has to

look at the asset under management under each strategy to draw any conclusions about

investors‘ preferred strategies. Investment strategies based on fundamental information has

been consistent throughout the observed period.

Table 3: Investment Strategies during the year

Strategy 2013 2014 2015 2016 2017

Arbitrage Relative Value 124 73 56 48 48

Bottom Up 117 101 100 93 84

Directional 35 24 24 21 12

Fundamental 111 113 120 117 108

Long Bias 141 113 112 105 96

Opportunistic 24 29 36 36 36

Short Bias 25 12 12 12 12

Systematic Quant 13 12 12 12 12

Top Down Macro 26 24 24 21 12

Grand Total 618 501 496 465 420

Source: Thompson Reuters Lipper. Authors’ calculations. Each strategy is assumed to

liquidate at the end of the month.

Top Down

Macro 1.11 3.38 -8.85 11.87 2.97 -2.10 63.33 -12.28

The asset under management has increased over the past five years (table 4) with maximum

investment in long bias strategies in 2017. There has been a decline in investments under

relative value strategies. Investment exposure to fundamental strategies has doubled over the

past five years. When one compares fund performance with AUM, one may note that long

bias did continue to attract large funds despite not so noteworthy performance. It implies that

AUMs are not necessarily based on historical performance.

Table 4: Asset Under Management (AUM)

Strategy 2013 2015 2017

Arbitrage Relative

Value 7778.3 6498.2 6915.6

Bottom Up 1569.8 5075.7 8692.8

Directional 50.3 148.8 NA

Fundamental 4156.7 8014.9 8692.8

Long Bias 6103.6 11904.9 15351.3

Opportunistic 2587.0 3142.4 542.5

Short Bias NA NA NA

Systematic Quant NA NA NA

Top Down Macro 2545.8 3030.9 NA

Total 24791.3 37815.8 40195.1

Source: Thompson Reuters Lipper. Authors’ calculations (figs in INR million)

Hedge funds, as an alternative asset class, has potential to grow. However, activities of hedge

funds need to be carefully monitored without stifling its growth potential. Hedge funds do

indulge in proprietary trading at high frequency and this is an area presently under close

scrutiny of market regulators. Regulators believe that high frequency traders abuse their

advantage of ‗speed trade‘ and adversely affect market quality. However, empirical finds

about the role of high frequency traders is mixed.

*************

[1] Times of India, 25 January 2018

[2] SEBI (Alternative Investment Funds) Regulations 2012

[3] As of December 2016 Asset under management (AUM) of PE and VC funds was $23.6bn, followed by real

estate funds $10.2 bn; and hedge funds comes fourth with AUM of $1.4 bn. (Source: Preqin Insight Report,

November 2017)

1.5.5 National Pension Scheme National Pension System Trust (NPST) was established by PFRDA as per the provisions of

the Indian Trusts Act of 1882 for taking care of the assets and funds under the NPS in the

best interest of the subscribers. The powers, functions and duties of NPS Trust are laid down

under the PFRDA (National Pension System Trust) Regulations 2015, besides the provisions

of the Trust deed dated 27.02.2008.

NPS Trust is the registered owner of all assets under the NPS architecture which is held for

the benefit of the subscribers under NPS. The securities are purchased by Pension Funds on

behalf of, and in the name of the Trustees, however individual NPS subscriber remain

beneficial owner of the securities, assets and funds. NPS Trust, under the NPS Trust

regulations, is responsible for monitoring the operational and functional activities of NPS

intermediaries‘ viz. custodian, Pension Funds, Trustee Bank, Central Recordkeeping Agency,

Point of Presence, Aggregators and that of IRDAI registered Annuity Service Providers

(empanelled with PFRDA) and also for providing directions/advisory to PF(s) for protecting

the interest of subscribers, ensuring compliance through audit by Independent Auditors, and

Performance review of Pension Funds etc.

NPS Performance

Fund NAV Returns(%) Worth of R5000

monthly

contribution

(R lakhs)

Assets

(R cr)

6-Month 1-Year 3-Year 5-Year 3-Year 5-Year

Central Government Plans

LIC Pension Fund 26.77 5.78 5.88 8.97 10.43

2.00 3.69 30,842

SBI Pension Fund 27.52 5.72 6.17 9.05 10.64

2.00 3.71 34,915

UTI Retirement 26.66 5.48 5.60 9.13 10.51

2.00 3.71 33,061

Fund NAV Returns(%) Worth of R5000

monthly

contribution

(R lakhs)

Assets

(R cr)

6-Month 1-Year 3-Year 5-Year 3-Year 5-Year

Solutions

State Government Plans

LIC Pension Fund 23.89 5.76 5.76 8.91 10.48

2.00 3.69 45,981

SBI Pension Fund 23.63 5.75 6.04 9.03 10.71

2.00 3.71 47,547

UTI Retirement

Solutions 23.72 5.46 5.56 9.02 10.50

2.00 3.70 46,533

NPS Lite (Swavalamban) Plans

Kotak Pension

Fund 19.29 4.94 4.82 8.71 10.45

1.99 3.67 50

LIC Pension Fund 22.13 6.16 6.32 9.27 10.67

2.01 3.72 922

SBI Pension Fund 22.33 5.61 6.12 9.18 10.69

2.00 3.72 1,332

UTI Retirement

Solutions 22.16 5.62 5.83 9.21 10.63

2.00 3.71 907

Corporate CG

LIC Pension Fund 17.58 6.12 5.78 9.00 10.54

1.99 3.69 3,142

SBI Pension Fund 17.54 5.77 6.21 9.14 10.76

2.00 3.72 15,038

Atal Pension Yojna

LIC Pension Fund

- NPS 13.53 5.92 5.63 8.86 -

1.99 - 1,855

SBI Pension Fund

- NPS 13.29 5.94 6.34 9.31 -

2.01 - 1,922

UTI Retirement

Solutions - NPS 13.60 5.50 5.75 9.10 -

2.00 - 1,858

TIER I: Equity Plans

Birla Sun Life

Pension Scheme 11.42 -2.27 -1.07 - -

- - 33

HDFC Pension

Fund 20.62 -0.72 0.49 12.78 13.17

2.07 3.82 1,457

ICICI Prudential

Pension Fund 27.60 -0.93 -0.35 11.37 12.28

2.03 3.71 1,076

Fund NAV Returns(%) Worth of R5000

monthly

contribution

(R lakhs)

Assets

(R cr)

6-Month 1-Year 3-Year 5-Year 3-Year 5-Year

Kotak Pension

Fund 25.29 -0.28 -3.63 11.22 12.25

2.01 3.69 213

LIC Pension

Fund #

18.14 0.83 -1.71 10.75 11.02

2.01 3.65 416

Reliance Capital

Pension Fund 25.59 0.78 -2.11 10.70 11.94

2.01 3.67 88

SBI Pension Fund 23.93 -0.13 1.29 12.25 12.74

2.05 3.78 1,922

UTI Retirement

Solutions 27.94 -0.05 0.25 12.57 13.07

2.06 3.81 285

TIER I: Government Bond Plans

Birla Sun Life

Pension Scheme 11.10 7.77 7.78 - -

- - 18

HDFC Pension

Fund 16.58 8.08 8.34 8.96 10.57

2.00 3.71 1,256

ICICI Prudential

Pension Fund 22.38 7.80 8.19 9.00 10.78

2.00 3.72 873

Kotak Pension

Fund 22.21 8.18 8.00 9.16 10.70

2.00 3.72 191

LIC Pension

Fund #

17.70 8.92 9.92 10.19 11.60

2.05 3.82 423

Reliance Capital

Pension Fund 21.69 7.65 7.92 9.05 10.71

2.00 3.72 90

SBI Pension Fund 24.14 7.96 8.15 9.16 10.89

2.01 3.73 2,322

UTI Retirement

Solutions 21.62 7.37 7.21 8.28 10.29

1.98 3.67 259

TIER I: Corporate Debt Plans

Birla Sun Life

Pension Scheme 11.38 5.14 5.66 - -

- - 18

HDFC Pension

Fund 16.73 4.93 5.50 8.30 9.82

1.99 3.68 900

ICICI Prudential

Pension Fund 25.85 5.22 6.15 8.55 10.20

1.99 3.71 690

Kotak Pension 25.42 4.01 4.77 8.11 9.77

1.97 3.65 142

Fund NAV Returns(%) Worth of R5000

monthly

contribution

(R lakhs)

Assets

(R cr)

6-Month 1-Year 3-Year 5-Year 3-Year 5-Year

Fund

LIC Pension Fund 16.64 4.99 5.11 7.86 9.63

1.97 3.65 286

Reliance Capital

Pension Fund 23.19 4.94 5.46 8.31 9.83

1.99 3.68 56

SBI Pension Fund 25.87 5.22 5.90 8.34 9.82

1.99 3.68 1,279

UTI Retirement

Solutions 23.23 4.49 5.08 8.02 9.57

1.97 3.65 170

TIER I: Alternative Investments

Birla Sun Life

Pension Scheme 11.19 3.77 7.48 - -

- - 0.45

HDFC Pension

Fund 11.75 4.75 6.69 - -

- - 4

ICICI Prudential

Pension Fund 11.42 4.39 5.90 - -

- - 2

Kotak Pension

Fund 11.37 5.07 6.76 - -

- - 0.70

LIC Pension

Fund #

11.60 4.10 7.78 - -

- - 0.61

Reliance Capital

Pension Fund 11.52 3.78 7.51 - -

- - 0.15

SBI Pension Fund 11.62 3.34 5.36 - -

- - 3

UTI Retirement

Solutions 11.61 3.78 7.51 - -

- - 0.66

TIER II: Equity Plans

Birla Sun Life

Pension Scheme 11.36 -2.51 -1.48 - -

- - 4

HDFC Pension

Fund 17.82 -0.87 0.29 13.02 11.35

2.07 3.80 57

ICICI Prudential

Pension Fund 21.79 -0.84 -0.17 11.42 12.32

2.03 3.71 70

Kotak Pension

Fund 22.39 -0.14 -3.57 11.12 12.19

2.01 3.69 213

Fund NAV Returns(%) Worth of R5000

monthly

contribution

(R lakhs)

Assets

(R cr)

6-Month 1-Year 3-Year 5-Year 3-Year 5-Year

LIC Pension

Fund #

15.20 1.69 -1.89 10.36 9.12

2.01 3.61 11

Reliance Capital

Pension Fund 21.89 0.53 -2.02 10.92 12.04

2.02 3.68 7

SBI Pension Fund 22.07 -0.16 1.31 12.22 12.80

2.06 3.78 87

UTI Retirement

Solutions 22.77 0.17 1.27 12.52 13.35

2.07 3.83 19

TIER II: Government Bond Plans

Birla Sun Life

Pension Scheme 10.72 7.79 7.57 - -

- - 2

HDFC Pension

Fund 16.94 8.05 8.30 8.93 10.39

2.00 3.71 35

ICICI Prudential

Pension Fund 21.46 7.76 8.19 9.00 10.75

2.00 3.72 54

Kotak Pension

Fund 20.76 7.51 7.49 8.83 10.61

1.99 3.70 14

LIC Pension

Fund #

17.85 9.40 11.40 10.25 11.44

2.06 3.83 11

Reliance Capital

Pension Fund 20.91 6.78 7.13 8.75 10.57

1.99 3.69 4

SBI Pension Fund 23.00 7.73 7.83 9.03 10.82

2.00 3.72 79

UTI Retirement

Solutions 22.25 7.58 7.66 8.59 10.52

1.99 3.69 14

TIER II: Corporate Debt Plans

Birla Sun Life

Pension Scheme 11.07 4.97 5.26 - -

- - 2

HDFC Pension

Fund 15.83 5.14 5.86 8.53 8.74

1.99 3.66 33

ICICI Prudential

Pension Fund 24.05 5.16 5.96 8.45 10.10

1.99 3.70 55

Kotak Pension

Fund 21.94 4.53 5.09 8.08 9.59

1.98 3.65 11

LIC Pension 15.56 4.78 4.74 7.92 8.69

1.97 3.62 7

Fund NAV Returns(%) Worth of R5000

monthly

contribution

(R lakhs)

Assets

(R cr)

6-Month 1-Year 3-Year 5-Year 3-Year 5-Year

Fund #

Reliance Capital

Pension Fund 21.59 4.89 5.50 8.26 9.73

1.99 3.68 4

SBI Pension Fund 23.65 5.09 5.73 8.23 9.75

1.99 3.67 61

UTI Retirement

Solutions 22.27 4.67 5.42 8.02 9.58

1.98 3.65 11

Fund NAV Returns(%) Worth of R5000

monthly

contribution

(R lakhs)

Assets

(R cr)

6-Month 1-Year 3-Year 5-Year 3-Year 5-Year

Returns as on Jan 04, 2019

Assets as on Nov 30, 2018

# Assets as on Oct 31, 2018

What is NAV? How is it calculated?

1.6 The various players and institutions in the Financial Markets

Regulators – SEBI, RBI, IRDA

Industry associations – AMFI,

Banks

Investment banks

Firms

Government

Local Bodies

PSUs

Asset managers – Mutual funds, PMS, Alternate investment funds, Insurance

companies

Brokers

Intermediaries

Proprietary funds – hedge funds, High frequency traders, algorithmic traders

Depositories

Clearing houses

Warehousing

1.7 How does the investor measure his success?

RETURNS

Holding period returns for any investment period

In other words the holding period returns is equal to the sum of the capital gains plus the

dividend yield (dividends/Beginning price).

HPR is an effective concept for a single period return. For comparing multiple period returns

one needs to use one of the following concepts along with HPR.

Arithmetic average of the single period returns: Sum of returns divided by number of periods.

It does not do any compounding.

∑

Geometric average of the single period returns : It involves compounding from period to

period. That is it gives a single return for the whole period that is equivalent to the effect of

the single period returns in the interim period. This is also known as time-weighted returns

and helps managers calculate returns when the asset under management may have been

different in different periods.

∏

Dollar (Rupee) weighted returns is similar to the IRR problem in corporate finance. So you

start with the cash flows in the investment. The IRR is the interest rate that sets the present

value of the cash flows realized on the portfolio (including the corpus at the end of period for

which the portfolio can be liquidated at the end of period ) equal to the initial cost of

establishing the portfolio.

Conventions that exist to annualize rate of returns. This is required when your computation

period straddles greater than a single year.

Returns of assets with a cash flows are quoted like an Annualised per period rate using simple

interest without compounding.

The effective annual rate gives the equivalent of a single rate that can sum the performance.

If we consider continuous compounding:

RISK

The uncertainty about returns from future is the risk. These may be specific to a security, an

asset class, an economy or a portfolio. In this course we do not consider the specific origin

and other factors of the risk. We start from the problem where the risk is given or known.

An investor can do a scenario analysis : the possible economic scenarios in the future and the

likelihood of each one of the scenarios and the returns realized under the scenario. This set of

possible outcomes with the associated probabilities gives the probability distribution of the

holding period returns. The mean of this distribution is the expected return.

Let there be a total of n scenarios and we have the associated probabilities. The expected

returns is given by the following:

∑

Since any of the scenarios could manifest, there is an uncertainty related to this expected

return for any particular instance / future period. This uncertainty is captured by the variance

(the second moment) of the returns. Variance is the sum of the squares of the deviation of the

returns from the mean.

∑

Thus squared deviations does not allow negative deviations to cancel positive deviations. But

it exaggerates larger deviations over smaller deviations. To reduce the dimension of variance

from percent squared to percent (same as returns) we take the standard deviation, defined as

square root of the variance.

The standard theory of investments is based on the Normal Distribution, which is a

symmetric distribution with the familiar bell-shaped plot.

Assume that you have a normally distributed return for your assets; you can then get

standardized returns by normalizing the deviation of returns with the standard deviation. Such

a standardized return distribution has mean 0 and standard deviation as 1.

Notice the figure (from KBM) below:

Since the central limit theorem applies to such normal distributions of returns, we have the

following simplification of the investment process.

1. The return on a portfolio comprising two or more assets whose returns are normally

distributed also will be normally distributed.

2. The normal distribution is completely described by its mean and standard deviation. No

other statistic is needed to learn about the behavior of normally distributed returns.

The above two properties lead us to following conclusion:

3. The standard deviation is the appropriate measure of risk for a portfolio of assets with

normally distributed returns. In this case, no other statistic can improve the risk assessment

conveyed by the standard deviation of a portfolio.

To evaluate large losses or worst case scenarios we could use the Value at risk (VaR). For

example a VaR of 5% means that your returns will be lower than this value only 5 % of the

time. This is equal to the fifth percentile of a normal distribution with mean 0 and SD 1.

This is calculated from excel function NORMSINV (0.05) or NORMINV (0.05, E(r), sigma).

Some important facts:

If returns are continuously compounded, then normality in any time period can be extended

to normality in any other time period. Else the extension is limited to nearby time periods.

Note that variance is proportional to the time while SD is proportional to square root of time.

For non-normal distributions, the statistics of kurtosis and skewness additionally indicate

information regarding potential extreme values. Kurtosis compares the frequency of extreme

values to that of the normal distribution. The kurtosis of the normal distribution is zero, so

positive values indicate higher frequency of extreme values than this benchmark. A negative

value suggests that extreme values are less frequent than with the normal distribution.

Kurtosis is also called ―fat tail risk‖.

The skew measures the asymmetry of the distribution. Skew takes on a value of zero if, like

the normal, the distribution is symmetric. Negative skew suggests that extreme negative

values are more frequent than extreme positive ones.

When using time series of returns

When we use a small sample of observations to calculate the mean and standard deviation of

returns, we use the sample average of returns in place of the expected mean (true mean).

Hence, while calculating the variance we divide the no. of observations as (n-1) and not n.

Risk free Rate: Expected return that can be earned with certainty. Usually the T-bills or

government bond for the period under consideration.

Risk premium of any asset or stock: Expected excess return of the asset over expected

return from an index

Excess return: In any period the excess of returns of the asset over the index.

Risk Aversion

Investors always ask for a higher return in case there is a higher risk. Now, individual assets

do matter in security analysis. But for investor portfolio, his attitude towards risk becomes

important. How much risk he is willing to take. This is demonstrated by how much of his

funds he is willing to allocate to the risky asset. This concept is known as risk aversion. The

degree of risk aversion of an investor can be evaluated comparing the risk premium of his

wealth (portfolio) with the variance of the portfolio. This is also known as the price of risk.

( )

Such measures can be calculated assuming the index as a portfolio too.

The Sharpe Ratio

This is calculated using the standard deviation as a measure of the risk.

( )

The Sharpe ratio of a risky portfolio quantifies the incremental reward (the increase in risk

premium) for each increase of 1% in the portfolio standard deviation.

Portfolio analysis in terms of mean and standard deviation (or variance) of excess returns is

called mean-variance analysis.

Inflation: The rate at which prices are rising.

Real rate of return: Returns adjusted for inflation or the decreasing value of money.

Nominal interest rate —the growth rate of money versus Real interest rate —the growth rate

of purchasing power. Fund managers like to show the former, investor should evaluate the

later.

Equilibrium Nominal interest rate and Fishers equation

Irvine Fisher argued in 1930 that the nominal interest rate should increase as per the expected

inflation. If the expectation of inflation for the period is E (i).

Nominal rate=Real rate+E (i)