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PROJECT REPORTON

“A STUDY ON PORTFOLIO MANAGEMENT SERVICES”

TOWARDS FULFILLMENT FOR THE POST GRADUATE DEGREE IN

MASTER OF MANAGEMENT STUDIES (MMS)AS PER

UNIVERSITY OF MUMBAI

SUBMITTED BYPANKAJ MASUTAGE

(FINANCE)Batch 2010-12

KOHINOOR BUSINESS SCHOOL,KURLA, MUMBAI.

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A PROJECT REPORT ON“A STUDY ON PORTFOLIO MANAGEMENT

SERVICES”

SUBMITTED BYPANKAJ MASUTAGE

(FINANCE)ROLL NO A-33

Batch 2010 - 2012

UNDER THE GUIDANCE OFPROF. MADHAVI DHOLE

CORE FACULTY - FINANCE

UNIVERSITY OF MUMBAIKOHINOOR BUSINESS SCHOOL,

KURLA, MUMBAI.

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DECLARATION

I hereby declare that the project report entitled “A STUDY ON PORTFOLIO MANAGEMENT SERVICE” is my work submitted in partial fulfillment of the requirement for Degree of MASTER OF MANAGEMENT STUDIES (MMS), UNIVERSITY OF MUMBAI from KOHINOOR BUSINESS SCHOOL, KURLA, MUMBAI and not submitted for the award of any degree, diploma, fellowship or any similar titles or prizes.

Date: Signature: ____________

Place: Mumbai Student Name: PANKAJ MASUTAGE

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CERTIFICATE

This is to certify that the project entitled “A STUDY ON PORTFOLIO MANAGEMENT SERVICE” is successfully completed by “Pankaj Masutage” during the second year of his course, in partial fulfillment of the Masters Degree in Management Studies, under the University of Mumbai, through KOHINOOR BUSINESS SCHOOL, Kurla, Mumbai-400070.

Date:

Place: Mumbai “Prof Madhavi Dhole”

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Acknowledgement

The success of any project is the result of hard work & endeavour of not one but

many people and this project is no different.

I am indebted to the Kohinoor Business School for giving me an opportunity to

work on this project. I would further like to thank my project guide Miss

MADHAVI DHOLE for assisting me in project and making it such a great

learning experience. This project has helped me broaden my horizons and

provide me with valuable insights in the area of Investment Management.

Last but not the least; I would like to express my gratitude to everyone at

Kohinoor Business School, who helped me get some valuable insights into the

Investment strategies during tenure of my project.

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Table of Contents

EXECUTIVE SUMMARY…………………………………………....7

INTRODUCTION..........................................................................9

LITERATURE REVIEW……………………………………………..12

SCOPE, OBJECTIVES & LIMITATIONS………………….……...13

TYPES OF RISKS INVOLVED IN AN INVESTMENT……………17

INVESTMENTALTERNATIVES……………..……….…………….25

MUTUAL FUNDS………..……………………….….........................31

TYPES OF MUTUAL FUNDS SCHEMES………………………….34

TRADING FOREX……………………………………….…………...38

THE FOREIGN CURRENCY MARKETS………………..……......40

CARBON CREDIT…………………………………………….……...50

EXCHANGE TRADED FUNDS…………………..………………….59

GOLD EXCHANGE TRADED FUNDS………………………..…....62

CONCLUSION……………………………………….…………….…..67

RECOMMENDATIONS………………………………………….…...52

REFERENCES…………………………………………….....……......68

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EXECUTIVE SUMMARY

Traditionally, the role of a Finance Manager was to procure funds for the Organisation.

However, as the time passed by the role got bit extended from its original parameter. In

today’s modern era, the role of a Finance Manger is not only to procure funds but also to

cater to the needs in the area of Application.

Portfolio Management in simpler terms can also be referred as Investment Management. The

art of investing is evolving into the science of investing. This evolution has been happening

steadily and will continue for some time in the years to come.

In seeking to achieve a client financial goal an investment manager can choose from a broad

range of financial instruments and numerous portfolio strategies.

The modern portfolio theory looks at total risk and total return. That is returns, risk,

benchmarks and information ratios constitute the foundations of active portfolio

management.

One of the safest ways an investment portfolio generates money is through fixed income

investments. These are usually in the form of stock & bonds issued by corporations or

governments or from dividends paid to shareholders by a corporation. Issues effecting fixed

income are the credit worthiness, or default risk, of the issuer, and the yield earned by the

bondholder.

Investments, though a source of gain to generate wealth out of the existing wealth, is

accompanied by various risks. Awareness about the various types of risks one might face,

making choices about the risks one is willing to take, and an understanding of how to build

and balance one’s portfolio to offset potential problems, one can manage investment risks to

their advantage

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Portfolio Management broadly covers the following areas:

Setting Investment Objectives

The first main step in the investment management process is setting investment objectives.

For institutions such as banks, the objective may be to lock in a minimum interest rate spread

over the cost of their funds. For others such as mutual funds, the investment objective may be

to maximize return.

Establishing Investment Policy

The second main step is establishing policy guidelines to satisfy the objectives. Setting policy

begins with asset allocation among the major asset classes - the products of the capital

market. The major asset classes includes equities, fixed income securities, real estate, and

foreign securities

Selecting Portfolio Strategy

Selecting a portfolio strategy that is consistent with the objectives and policy guidelines of

the client or institution is the third step in the investment management process. Portfolio

strategies can be classified as either active strategies or passive strategies. For example,

active equity strategy may include forecasts of future earnings, dividends or price- earnings

ratios. On the other hand passive portfolio involves minimal expectation input.

Selecting the Assets

Once a portfolio is selected, the next step is the selection of the specific assets to be included

in the portfolio. An optimal or efficient portfolio is one that provides the greatest expected

return for a given level of risk, or equivalently, the lowest risk for a given expected return.

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Measuring & Evaluating Performance

The measurement and evaluation of investment performance is the last step in the investment

management process. This step involves measuring the performance and then evaluating that

performance relative to some realistic benchmark.

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Introduction to Portfolio Theory

Introduction to Portfolio Management Investing in securities such as shares, debentures, and

bonds is profitable as well as exciting. It is indeed rewarding, but involves a great deal of risk

and calls for scientific knowledge as well artistic skill. In such investments both rationale and

emotional responses are involved. Investing in financial securities is now considered to be

one of the best avenues for investing one savings while it is acknowledged to be one of the

best avenues for investing one saving while it is acknowledged to be one of the most risky

avenues of investment.

“It is rare to find investors investing their entire savings in a single security. Instead, they

tend to invest in a group of securities. Such a group of securities is called portfolio”. Creation

of a portfolio helps to reduce risk, without sacrificing returns. Portfolio management deals

with the analysis of individual securities as well as with the theory and practice of optimally

combining securities into portfolios. An investor who understands the fundamental principles

and analytical aspects of portfolio management has a better chance of success.

An investor considering investment in securities is faced with the problem of choosing from

among a large number of securities and how to allocate his funds over this group of

securities. Again he is faced with problem of deciding which securities to hold and how much

to invest in each. The risk and return characteristics of portfolios. The investor tries to choose

the optimal portfolio taking into consideration the risk return characteristics of all possible

portfolios.

An investor invests his funds in a portfolio expecting to get good returns consistent with the

risk that he has to bear. The return realized from the portfolio has to be measured and the

performance of the portfolio has to be evaluated.

It is evident that rational investment activity involves creation of an investment portfolio.

Portfolio management comprises all the processes involved in the creation and maintenance

of an investment portfolio. It deals specifically with the security analysis, portfolio analysis,

portfolio selection, portfolio revision & portfolio evaluation. Portfolio management makes

use of analytical techniques of analysis and conceptual theories regarding rational allocation

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of funds. Portfolio management is a complex process which tries to make investment activity

more rewarding and less risky.

Two basic principles of Finance form the basis of Portfolio theory, namely, Time value of

Money and Safety of Money.

Rupee today is worth than rupee of tomorrow or a year hence and as parting with money

involves the loss of present consumption, it has to be rewarded by a return commensurate

with time of waiting. Secondly, a safe rupee is preferred to an unsafe rupee at any point of

time. Due to risk aversion of investor, they feel risk is inconvenient and has to be rewarded

by a return. The larger the risk taken, the higher should be the return.

Present values and future values are related by a discount factor comprising of firstly the

interest rate component and secondly the time factor. The future flows are to be discounted to

the present by a required rate of discount to make them comparable and equal in value.

As regards the risk factor, there is a direct relationship between the expected return and

unavoidable risk. Avoidable risk can be reduced or even eliminated by measures like

diversification.

Portfolio management is an investment advisory discipline that incorporates financial

planning, investment portfolio management and a number of aggregated financial services.

High Net Worth Individuals (HNWIs), small business owners and families who desire the

assistance of a credentialed financial advisory specialist call upon wealth managers to

coordinate retail banking, estate planning, legal resources, tax professionals and investment

management. Wealth managers can be an independent Certified Financial Planner, MBAs,

Chartered Strategic Wealth Professional, CFA Charterholders or any credentialed

professional money manager who works to enhance the income, growth and tax favored

treatment of long-term investors. Wealth management is often referred to as a high-level form

of private banking for the especially affluent. One must already have accumulated a

significant amount of wealth for wealth management strategies to be effective.

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Evolution of Portfolio Management

Portfolio management is essentially a systematic method of maintaining one‘s investment

efficiently. Many factors have contributed to the existence and development of the concept.

In the early years of the century analyst used financial statements to find the value of the

securities. The first to be analyzed using this was Railroad Securities of the USA. A booklet

entitled ―The Anatomy of the Railroad‖ was published by Thomas F. Woodlock in 1900. As

the time progressed this method became very important in the investment field, although

most of the writers adopted different ways to publish there data.

They generally advocated the use of different ratios for this purpose. John Moody in his book

―The Art of wall Street Investing‖, strongly supported the use of financial ratios to know the

worth of the investment. The proposed type of analysis later on became the ―common-size‖

analysis.

The other major method adopted was the study of stock price movement with the help of

price charts. This method later on was known as Technical Analysis. It evolved during 1900-

1902 when Charles H. Dow, the founder of the Dow Jones and Co. presented his view in the

series of editorials in the Wall Street Journal in USA. The advocates of technical analysis

believed that stock prices movement is ordered and systematic and the definite pattern could

be identified. There investment strategy was build around the identification of the trend and

pattern in the stock price movement.

Second phase began in the year 1930. The phase was of professionalism. After coming up of

the Securities Act, the investment industry began the process of upgrading its ethics,

establishing standard practices and generating a good public image. As a result the

investments market became safer place to invest and the people in different income group

started investing. Investors began to analyze the security before investing.

During this period the research work of Benjamin Graham and David L. Dood was widely

publicized and publicly acclaimed. They published a book ―Security Analysis‖ in 1934,

which was highly sought after. There research work was considered first work in the field of

security analysis and acted as the base for further study. They are considered as pioneers of

security analysis as a discipline.

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Third phase was known as the scientific phase. The foundation of modern portfolio theory

was laid by Markowitz. His pioneering work on portfolio management was described in his

article in the Journal of Finance in the year 1952 and subsequent books published later on.

Literature Review

Jack L. Treynor has suggested a new predictor of mutual fund performance, one that differs

from virtually all those used previously by incorporating the volatility of a fund's return in a

simple yet meaningful manner.

Michael C. Jensen (1967) derived a risk-adjusted measure of portfolio performance

(Jensen’salpha) that estimates how much a manager’s forecasting ability contributes to fund’s

returns.

Mishra (2002) measured mutual fund performance using lower partial moment. He measures

of evaluating portfolio performance based on lower partial moment are developed. Risk from

the lower partial moment is measured by taking into account only those states in which return

is below a pre-specified “target rate” like risk-free rate.

Kshama Fernandes (2003) evaluated index fund implementation in India. The tracking error

of index funds in India is measured. The consistency and level of tracking errors obtained by

some well-run index fund suggests that it is possible to attain low levels of tracking error

under Indian conditions. At the same time, there do seem to be periods where certain index

funds appear to depart from the discipline of indexation.

Dominguez and Frankel (1993) use daily and weekly official and press report data on

intervention directed at the yen/dollar and mark/dollar exchange rates between 1984 and

1990. The authors find that intervention had a significant impact on the exchange rate,

especially when it was publicly announced and coordinated.

Catte (1994) confirm that intervention influences exchange rates particularly for coordinated

interventions.

Dominguez (2003) concludes that recent G3 intervention was often successful with regard to

both short and longer-term exchange rate movements. However, other papers do not support

the conclusion that intervention is effective.

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Baillie and Humpage (1992) find a positive relationship between Federal Reserve, Bank of

Japan and Bundes bank intervention and the conditional volatility of the mark/dollar and

yen/dollar exchange rates for the period February 1987 to February 1990.

Scope of Portfolio Management:-

Portfolio management is a continuous process. It is a dynamic activity. The following are the

basic operations of a portfolio management.

a) Monitoring the performance of portfolio by incorporating the latest market

conditions.

b) Identification of the investor’s objective, constraints and preferences.

c) Making an evaluation of portfolio income (comparison with targets and

achievement).

d) Making revision in the portfolio.

e) Implementation of the strategies in tune with investment objectives

Objectives

To become conscious of all the individual listings in the portfolio.

To develop a “big picture” view and a deeper understanding of the the collection as a

whole.

To allow sensible sorting, adding, and removing of items from the collection based on

their costs, benefits, and alignment with long-term strategies or goals.

To allow the portfolio owner to get the “best bang for the buck” from resources

invested.

Limitations

Portfolio management service is a huge business today. There is stiff competition which

makes it difficult for the investor to choose a good manager. However, this can be sorted out

by taking his previous history and performance into account. One limitation faced, is the

authority given to the manager to have control over your investments. When we ourselves,

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manage and trade, it's a different scenario altogether. However, trusting a portfolio

management advisor is difficult and risky as well. There are many known cases of churning,

where the consultant shifts investment from one fund to another. Some investors restrict this

practice by limiting the commission to the consultant depending on his performance;

however, if there is a loss, it wouldn't matter much to them. All in all, the professional

brokers are very efficient and the process and detailing is strong, since the amount invested is

big. I would suggest you look for good brokers and ask them about their ways of functioning;

also check their credibility.

Growth of income and asset mix

Here the investor requires a certain percentage of growth as the income from the capital he

has invested. The proportion of equity varies from 60 to 100 % and that of debt from 0 to 40

%. The debt may be included to minimize risk and to get tax exemption.

Capital appreciation and Asset Mix

It means that value of the investment made increases over the year. Investment in real estate

can give faster capital appreciation but the problem is of liquidity. In the capital market, the

value of the shares is much higher than the original issue price.

Safety of principle and asset mix

Usually, the risk adverse investors are very particular about the stability of principal.

Generally old people are more sensitive towards safety.

Risk and return analysis

The traditional approach of portfolio building has some basic assumptions. An investor wants

higher returns at the lower risk. But the rule of the game is that more risk, more return. So

while making a portfolio the investor must judge the risk taking capability and the returns

desired.

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Diversification

Once the asset mix is determined and risk – return relationship is analyzed the next

step is to diversify the portfolio. The main advantage of diversification is that the

unsystematic risk is minimized.

Role of Portfolio Management

There was a time when portfolio management was an exotic term. A practice which is beyond

the reach of the small investor, but the time has changed now. Portfolio management is now a

common term and is widely practiced in INDIA. The theories and concepts relating to

portfolio management now find there way in the front pages of the financial newspapers and

magazines.

In early 90‘s India embarked on a program of economic liberalization and globalization, with

high participation of private players. This reform process has made the Indian industry

efficient, with rapid computerization, increased market transparency, better infrastructure

and customer services, closer integration and higher volume. The markets are dominated by

large institutional investors with their diversified portfolios. A large number of mutual funds

have come up in the market since 1987. With this development investment in securities has

gained considerable momentum

Along with the spread of the securities investment way among Indian investors have changed

due to the development of the quantitative techniques. Professional portfolio management,

backed by research is now being adopted by mutual funds, investment consultants, individual

investors and big brokers. The Securities Exchange Board of India (SEBI) is a regulatory

body in INDIA. It ensures that the stock market is free from fraud, and of course the main

objective is to ensure that the investor‘s money is safe.

With the advent of computers the whole process of portfolio management has become quite

easy. The computer can absorb large volumes of data, perform the computations accurately

and quickly give out the results in any desired form. Moreover simulation, artificial

intelligence etc provides means of testing alternative solutions.

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The trend towards liberalization and globalization of the economy has promoted free flow of

capital across international borders. Portfolio not only now include domestic securities but

foreign too. So financial investments can‘t be reaped without proper management.

Another significant development in the field of investment management is the introduction to

Derivatives with the availability of Options and Futures. This has broadened the scope of

investment management.

Investment is no longer a simple process. It requires a scientific knowledge, a systematic

approach and also professional expertise. Portfolio management is the only way through

which an investor can get good returns, while minimizing risk at the same time.

So portfolio management objectives can be stated as: -

Risk minimization.

Safeguarding capital.

Capital Appreciation.

Choosing optimal mix of securities.

Keeping track on performance.

Managing Investment Risk

Investments, though a source of gain to generate wealth out of the existing wealth, it is

accompained by various risks.

With insured bank investments, such as certificates of deposit (CDs), there is inflation risk,

which means that one may not earn enough over time to keep pace with the increasing cost of

living.

With investments that aren't insured, such as stocks, bonds, and mutual funds, there is a risk

that one might lose money, which can happen if the price falls and the asset is sold for less

than the amount paid to buy the asset.

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However, investment risks can be minimized in order to gain control over what happens to

the money invested. Awarness about the various types of risks one might face, making

choices about the risks one is willing to take, and an understanding of how to build and

balance one’s portfolio to offset potential problems, one can manage investment risks to their

advantage.

Types of risks involved in an investment

Various types of risks involved in an investment are as follows:-

1) Interest rate risk: This arises due to variability in the interest rates from time

to time. A change in the interest rates establishes in an inverse relationship in the

price of security i.e. price of securities tends to move inversely with change in rate

of interest, long term securities show greater variability in the price with respect to

interest rate changes than short term securities. Interest rate risk vulnerability for

different securities is as under:-

Types Risk Extent

Cash Equivalent Less vulnerable to interest rate risk

Long Term Bonds More vulnerable to interest rate risk

2) Purchasing power risk: It is also known as inflation risk. It arises because

inflation affects the purchasing power adversely. Nominal return contains both the real return

component and an inflation premium in a transaction involving risk of the above type to

compensate for inflation over an investment-holding period. Inflation rates vary over time

and investors are caught unaware when rate of inflation changes unexpectedly causing

erosion in the value of realised rate of return and expected return. Purchasing power risk is

more in inflationary conditions especially in respect of bonds and fixed income securities. It

is not desirable to invest in such securities during inflationary periods. Purchasing power risk

is however, less in flexible income securities like equity shares or common stock where rise

in dividend income offsets increase in the rate of inflation and provides advantage of capital

gains.

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3) Business risk: Business risk emanates from sale and purchase of securities affected

by business cycles technological changes etc. Business cycles affect all types of securities

viz; there is cheerful movement in boom due to bullish trend in stock prices whereas bearish

trends in depression brings down fall in the prices of types of securities. Flexible income

securities are more affected than fixed rate securities during depression due to decline in their

market price.

4) Financial risk: It arises due to changes in the capital structure of the company. It

is also known as leveraged risk and expressed in terms of debt-equity ratio. Excess of debt

vis-à-vis equity in the capital structure indicates that the company is highly geared. Although

a leveraged company’s earnings per share are more but dependence on borrowings exposes it

to the winding-up for its inability to honour its commitment towards lenders / creditors. The

risk is known as leveraged or financial risk of which investors should be aware and portfolio

manager should be very careful.

ASSESSING RISK

It's one thing to know that there are risks in investing. But how do you figure out ahead of

time what those risks might be, which ones you are willing to take, and which ones may

never be worth taking?

There are three basic steps to assessing risk:

1. Understanding the risk posed by certain categories of investments

2. Determining the kind of risk you are comfortable taking

3. Evaluating specific investments

You can follow this path on your own or with the help of one or more investment

professionals, including stockbrokers, registered investment advisers, and financial planners

with expertise in these areas.

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1. Determine the Risk of an asset class

The first step in assessing investment risk is to understand the types of risk a particular

category or group of investments—called an asset class—might expose you to.

For example, stock, bonds, and cash are considered separate asset classes because each of

them puts your money to work in different ways:

• Stocks, don't have a fixed value but reflect changing investor demand, one of the

greatest risks you face when you invest in stock is volatility, or significant price changes in

relatively rapid succession.

• Bonds face a risk of default on the part of the bond issuer and a risk of change in the

market price of bonds due to upward or downward movement in interest rates

• Cash investments like treasury bills and money market mutual funds though highly

liquid pose a risk of losing ground to inflation.

• Other assets classes, including real estate, pose their own risks, while investment

products, such as annuities or mutual funds that invest in a specific asset class, tend to share

the risks of that class.

However ,if one understands what those risks are, one can generally take steps to offset those

risks.

2. Selecting Risk

The second step is to determine the kinds of risk you are comfortable taking at a particular

point in time. Since it's rarely possible to avoid investment risk entirely, the goal of this step

is to determine the level of risk that is appropriate for you and your situation. Your decision

will be driven in large part by:

A. Your age

B. Your goals and your timeline for meeting them

C. Your financial responsibilities

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D. Your other financial resources

3. Evaluating Specific Investments

The third step is evaluating specific investments that you are considering within an asset

class. There are tools you can use to evaluate the risk of a particular investment—a process

that makes a lot of sense to follow both before you make a new purchase and as part of a

regular reassessment of your portfolio.

It's important to remember that part of managing investment risk is not only deciding what to

buy and when to buy it, but also what to sell and when to sell it.

• For stocks and bonds, the place to start is with information about the issuer, since the

value of the investment is directly linked to the strength of the company—or in the case of

certain bonds, the government or government agency—behind them.

• One should take a note of the issuing company’s documents like:

o Audited Financial Statements,

o Prospectus in case of initial public offer,

o Credit ratings given by independent rating agencies like ICRA, CARE, CIRSIL etc.

The higher the letter grade a rating company assigns, the lower the risk you are taking.

But remember that ratings aren't perfect and can't tell you whether or not your investment will

go up or down in value. Research companies also rate or rank stocks and mutual funds based

on specific sets of criteria.

Brokerage firms that sell investments similarly provide their assessments of the probable

performance of specific equity investments. Before you rely on ratings to select your

investments, learn about the methodologies and criteria the research company uses in its

ratings. You might find some research companies' methods more useful than others'.

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Asset Allocation

Analyst and other “experts” invariably spout jargon. Terms like valuation, diversification,

asset allocation are thrown at us from every angle. Little wonder that investors are invariably

confused. But not all these things are as incredibly complex as they sound. One such term

we often hear is asset allocation. Though it appears intimidating, in actual fact, the meaning

is quite straightforward. Asset allocation is all about putting your eggs in different baskets.

It’s a kind of insurance or protection, should one of your investments go bad. If the stock

market crashes, your non-stock holdings can help bail you out. Or if real estate plunges, you

will thank God for your PPF account. In actual fact, whether you realise it or not, you are

already allocating your assets – as most of us have our wealth divided into different assets –

gold, real estate, stocks, bank account, etc. The question is whether you are doing so

consciously and strategically, or simply in a random or haphazard manner. The two phrases,

“asset allocation” and “diversification” are often used interchangeably. But not many know

that there is a subtle difference between the two terms. This is because they have similar

objectives: To minimise risk and provide exposure to differing growth opportunities within

an investment portfolio. Diversification is often likened to the old adage; “Don’t put all your

eggs in one basket.” By doing this, you can help prevent losing it all on one poor choice-just

as all your eggs would break if your dropped the basket. A diversified portfolio help protect

against large losses because, typically, if some securities crash, other may perform well.

Asset allocation is similar to diversification, but involves some amount of strategy. The

cornerstone of this is allocation of assets over different asset classes. In a diversified stock

portfolio, we not only have a stock portfolio, but a bond portfolio, a cash equivalent portfolio,

and maybe some other types of assets as well. The combination of multiple asset classes

offers the growth potential of stocks, combined with regular income and relative stability of

bonds and the liquidity and security of cash. Most of us spend sleepless nights trying to

figure out which stocks to buy or sell, or whether to own mutual funds or derivatives. These

are no doubt real concerns, but much of the tension could be minimized by some prior

planning. And it is this planning that is called asset allocaton.

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Asset allocation is actually a relatively new concept. Till about twenty or thirty years ago, it

was believed that specific stock selection, or market timing, or timing the decision to move

from stocks to bonds were the most important determinants of investment success. But

today, though most of us still try to live on timing and selection of individual securities, he

investment professionals have come to recognize the importance of asset allocation.

Several studies in the recent past have shown that asset allocation is the single greatest

determinant of investment performance. Depending on whose research you look at, you will

find that the distribution of our money amongst types of asset.

Asset Allocation

Stocks are the best long-term investments

Though the first article of this primer (What is asset allocation?) lays down the basic reasons

for asset allocation, many assume that this is only theoretical. The common belief is that

asset allocation is meant only retired or conservative investors. After all, market-savvy

punters like us don’t need all these bonds and other such boring investments. We know how

to play the stock markets so well and make so much money from our capital, that we don’t

need all this asset allocation stuff. If this is what you believe, then you could’nt be more

wrong. If actual fact, the reasons for the recent disillusionment with asset allocation has been

the incredible, decade long bull market in the US. In India, too, the unabated (and

phenomenal) rise in ICE stocks has led investors to shun all other options. Obviously,

investors believe they can achieve better returns by concentrating their investments rather

than diversifying them. Through this strategy may have proved very successful in the late

nineties, the year 2000 should have woken you up to the reality. Ultimately, over-

dependence on one asset class ignores the risks that are being taken, while considering only

the Returns. Asset allocation may or may not help increase your overall returns, but it will

definitely help lower the risks. One should realise that the recent extra-ordinary stock-market

performances are just the extra-ordinary! No one knows what the future holds in store, and

asset allocation is one simply one measure that tries to insulate on from various possibilities.

The first thing to remember is that “The future may really be different!” Despite the fact the

we keep saying that past performance is no guarantee of future returns, do we really believe it

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– and base our investments on that? When we are making money had over fist on high-flying

stocks like Infosys and Zee, we tend to believe that our stock-picking skills will provide good

returns forever. But in our heart of hearts we all know it is impossible to be certain of any

future market performance, and the recent crash should have brought around even the most

die-hard punters. The selection of any investment is preceded, either implicitly or explicitly,

by an asset allocation decision. Asset allocation is therefore said to be the most fundamental

of investment decisions. As we saw in the first article of this primer, the asset allocation

decision accounts for around 90% of the variation in returns over time. Despite this, until

recently, asset allocation was an ad hoc exercise. Investors were advised to allocate

anywhere from 100% in bonds based on a cursory classification by age or income.

However, in recent times, much research has gone into the subject and the concept has

become much more scientific than in the past. The principles underlying asset allocation are

actually quite simple. Firstly, history shows that not all classes of assets move in the same

direction at the same time. In one year, large-cap stocks may rise, while bonds fall. In

another year small-caps may surge along with real estate. History also tells us that some

asset classes are far more volatile than others. For instance, the yearly variance in the stock

markets can be quite drastic, while your bank account does not change regardless of what

happens in the outside world.

Ideally, if you or I could predict which asset classes would do best in any specific time

period, we would have no need for asset allocation. In such a situation (assuming we were

operating in Indian markets), we would have moved into stocks in late 1993, exited in late

1994 and bough bonds, entered into IT stocks in late 1996 and then sold out again in early

2000. But then how many of us are psychic?

Or if we were sure that we would not need money for the next thirty years, it may make sense

to buy only stocks and stick with them – given that this asset class has historically provided

the best returns. Again, how many of us can be sure that we won’t need money a few years

down the line, and this need won’t arise when the markets are in the grip of bears?

25

Asset allocation is ideal for all us mortals who aren’t psychic, and who will need to use their

savings at some point in their lifetime. By following a policy of balancing the types of assets

we own between stocks, bonds, and cash, we trade “the best” returns we’d get if we timed the

markets perfectly for predictability and piece of mind. Strangely enough, most people tend to

abandon asset allocation just when they need most – like at the peak of a bull-run or at the

bottom. At the height of a “teji” we should be looking at non-stock assets more seriously,

while at the bottom, we tend to go overboard on bonds, when we should be looking more

closely at stocks. Typically a strong recent trend makes us want to concentrate our holdings

in that asset class, while logic and long term history tell us that this is when we should

actually look closer at other asset classes.

In conclusion, rather than trying to figure out when a particular asset class has peaked or

bottomed, it makes sense for investors to formulate a broad strategy for allocation that can be

fine tuned from time to time. This is the only way to ensure that you minimize the risks,

while taking advantage of growth possibilities.

Different Asset Classes – Risk v/s Return

We know asset allocation and present a (hopefully, convincing) case for using this technique.

We also spoke loosely about “asset classes”. Essentially, the allocation process needs to first

categorise different assets into broad classes with similar characteristics. In the investment

world, there are two parameters that are of paramount importance. The first is the return that

one gets from a particular investment, and the second is the risk that one takes to achieve that

return. Also, it is known that there is a direct relationship between the two. Typically, the

greater the returns, the greater the risk. It is very difficult to foresee the future risks or returns

that a particular investment will have, so we tend to use historical data for classification

purposes.

Conservative investments, such as cash or bank accounts offer minimal risk, and essentially

seek to preserve existing capital and offer minimal risk. Moderate-risk investments include

highly debt instruments (such as company fixed deposits or bonds issued by corporates) as

well as bonds with shorter maturities. Stocks typically offer greater growth possibilities-as

well as greater risk potential.

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But it is not simple. Within each of these individual asset classes lie further segments, such

as value and growth stocks, corporate and government bonds, bank deposits and PPF. There

are also other assets like gold or real estate that may not fit into the three commonly accepted

categories. Also, certain types of assets like cyclical stocks are often treated as separate

assets classes because they have different historical performance characteristics from other

stocks.

While talking of real estate, though these investments have been very popular in the Indian

context, their lack of liquidity and high unit value makes them intrinsically unsuitable as

investments for most of us. For the purpose of this dicussion, we will restrict ourselves to the

three basic asset classes comprised of financial securities.

Once the basic principles are understood, an investor can choose to define further classes as

per his needs and perceptions.

INVESTMENT ALTERNATIVES

A key issue in designing the investment portfolio is determining what investment choices to

offer individual participants.

The simplest portfolio theory suggests that it is sufficient to provide a choice consisting of

one portfolio of risky assets – the market portfolio – and one risk-free asset, and then to allow

individuals to mix these two portfolios in accordance with their individual risk preferences.

Most public and private plans however, provide a large number and broad range of choices.

For example:

In the U.S., the vast majority of private sector defined contribution pension plans offer

multiple investment options, often allowing individuals to choose from among several equity,

bond, market and balanced fund options. Individuals also have thousands of mutual funds to

choose from when allocating their non-pension portfolios.

27

In Sweden, the Social Security system provides participants a menu of investment options

that includes over 650 funds from which to choose. The central question is whether to choose

a mix of investment options available to participants in an individual accounts program

matters for portfolio allocation. In particular, we are interested in the “behavioral” response

to the selection of fund options, over and above any “mechanical” link by which we mean

changes that flow directly from adding or relaxing a binding constraint. For example, suppose

an individual is prohibited from owning a particular asset class. It is clearly the case that this

constraint will alter their portfolio choice if, in the absence of the constraint, the individual

would have invested in this asset class. Instead, our focus is on the “behavioral” response,

which might occur when a change in the menu of investment options leads to a large change

in asset allocation, even though the investment opportunity set has not significantly changed.

For example:

Imagine that an investor, faced with a choice between a diversified stock fund and a

diversified bond fund, chose to allocate 50 percent of her portfolio to each fund. If this

individual were provided a second diversified stock fund as a third investment alternative,

then the overall investment opportunity set of this individual has not substantially changed

because the additional stock fund is largely redundant of the first. In this case, standard

portfolio theory suggests that this individual’s optimal allocation would still be close to 50

percent bonds and 50 percent stocks.

With frequent spells of high volatility hitting market shores, it becomes imperative for

individuals to diversify their portfolio and include other assets and reduce their exposure to

any individual asset. To achieve this, one can take a closer look at a few alternative

investment options that provide the necessary diversification and avail of potentially good

returns.

Investment Altenatives are categorised as :

I. Investment options to Save Tax under Section 80C :

There are many ways of reducing the tax liability through sound investments. The most

common option is the tax deductions under Section 80 C of the Income Tax Act. There are

28

various investing options under 80 C that enable one to reduce the taxable income up to a

maximum limit of Rs 1 lakh

The eligible deductions are contributions to Employee Provident Fund, Payment of tuition fee

or repayment on home loan. In addition there are investment avenues that are eligible for tax

deduction which are as below:

A. Investing in Government Securities

For those who seek absolute protection of their capital, Investing in Postal Saving schemes

such as NSC or putting money in PPF (Public provident fund) is an option.

i. Public Provident Fund (PPF)

PPF offers interest income in the range of 8% with annual compounding. However, the

maximum amount that can be invested in PPF is Rs.70,000 and money cannot be withdrawn

before the completion of 6 years. Those who look at PPF in terms of their retirement corpus

and feel that their current PF deduction is not sufficient, may consider this option.

ii. National Savings Certificate

Another popular avenue investing - NSC also offers a return of 8% on half yearly

compounding basis. Another feature is that interest accrued on NSC is also eligible for

Section 80 C benefit. The interest on NSC investment, except in the sixth year, is not paid but

credited to the investor's account. So, the interest that accumulates is treated as invested in

NSC and the accumulated interest thereby qualifies for tax deduction. The duration of NSC is

for 6 years with an option of premature encashment after 3 years. However, that would

reduce the net yield from NSC.

B. Tax saving FD's

This is a relatively new kid on the block. Tax saver fixed deposits are issued by banks for a

tenure of 5 years and premature withdrawal is not permissible. It generates interest income of

8% with quarterly compounding. The interest income is taxable. If we compare tax saving

29

FD's to NSC, Tax saving FD's have an edge on lock in period which is lesser by one year.

However NSC have an edge from the fact that interest accrued is also eligible for 80 C limit

for the first five year.

C. Investment in Equity linked Saving Scheme(ELSS)

ELSS are funds invested primarily in equity shares of companies. They have been in

limelight for their superior performance in the recent past and are a popular tax saving

investment. Due to their tax saving nature, they are also known as tax saving mutual fund

schemes. Like all investment avenues under Section 80C, ELSS funds also involve a certain

lock in. In this case the lock in is for three years which means that they cannot be withdrawn

for a period of three years from the date of investment.

The ELSS Fund manager basically invest 80% of the total amount in the equity shares and

the remaining 20% is invested in other instruments like bonds, debentures, government

securities and others.

However the basic risk with ELSS scheme is that since it has a considerable equity exposure,

the returns are linked to market returns and hence there is no guarantee of returns and even

capital. At the same time, ELSS can also be seen as a way to long term investing in equity

markets and with India growth story unfolding and fundamentals looking intact, investment

experts anticipate that equities would continue to outperform other investing avenues for at

least next 5-7 years.

Investing in ELSS provides dual benefit of capitalizing on superior returns as well as tax

saving. With the current market turmoil avoid this instrument unless you are looking for a

long term investment. If that is the case look for good fund managers with stellar tax records.

D. Life Insurance and Tax savings

As far as life insurance is concerned, endowment plans (money back plans) have been a

popular source of investing.There are various long term life insurance policies which give

you good returns, tax savings under 80C and an insurance cover as well.

ULIP's offer insurance as well as market related returns in a single product. However,

investors should understand the underlying structure of ULIP carefully since these offerings

30

have a substantial charge towards expense in the initial years and is advisable only for

investors with a large investing horizon. Avoid ULIPs if you do not like to risk money. Also

invest in ULIPs with a long term horizon of a minimum of 10 years.

Pension Plans : Another avenue within insurance domain is Pension plans. Pension plans

have got a boost in last finance bill with the overall limit raised from Rs. 10,000 to Rs.

100,000. Senior Citizen Saving Scheme 2004 and Post Office Time Deposit Account have

also been included in Section 80 C.

However some people may be biased towards other investing options as compared to Life

Insurance products since they may prefer insurance and investments separately.

E. Infrastructure development Bonds

With a return in the range of 5-6% this is the last avenue a tax saver would resort to. The

dismal returns provided by these bonds have resulted in the investors shying away from these

bonds. The return is hardly good enough to fight inflation, leave alone wealth creation.

So investing in any of the above avenues would help you reduce your taxable income by a

maximum of Rs 1 lakh, irrespective of how much you earn and under which tax bracket you

fall.

II. Asset Classes for Diversification :

A. Stocks & Bonds: Trding in stocks or making long term investments is fairly a

complicated job, as choosing from innumerous company stocks of different industries and

also of companies based in different countries is by far tedious and confusing for an

individual. However an investor can make smart investments by taing care of the following

guidelines before investing :

• Look for positive price momentum

• Diversify between industry groups

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• Beware os stodgy stocks

• Weedout takeover situations

• Check out the chart (Technical Analysis)

• Other Criterion : Earnings Growth, market capitalisations, buy the price performers,

and share price of the stock. (Fundamental Analysis)

32

MUTUAL FUND

A mutual fund is a form of collective investment that pools money from many investors and

invests the money in stocks, bonds, short-term money market instruments, and/or other

securities.

Mutual Fund is a trust that pools the savings of a number of investors who share a common

financial goal. The money thus collected is invested by the fund manager in different types of

securities depending upon the objective of the scheme. These could range from shares to

debentures to money market instruments. The income earned through these investments and

the capital appreciation realized by the scheme is shared by its unit holders in proportion to

the number of units owned by them. Thus a Mutual Fund is the most suitable investment for

the common man as it offers an opportunity to invest in a diversified, professionally managed

portfolio at a relatively low cost. The small savings of all the investors are put together to

increase the buying power and hire a professional manager to invest and monitor the money.

Anybody with an investible surplus of as little as a few thousand rupees can invest in Mutual

Funds. Each Mutual Fund scheme has a defined investment objective and strategy.

33

The flow chart below describes broadly the working of a mutual fund.

A mutual fund is a managed group of owned securities of several corporations. These

corporations receive dividends on the shares that they hold and realize capital gains or losses

on their securities traded. Investors purchase shares in the mutual fund as if it was an

individual security. After paying operating costs, the earnings (dividends, capital gains or

loses) of the mutual fund are distributed to the investors, in proportion to the amount of

money invested.

A mutual fund may be either an open-end or a closed-end fund. An open-end mutual fund

does not have a set number of shares; it may be considered as a fluid capital stock. The

number of shares changes as investors buys or sell their shares. Investors are able to buy and

sell their shares of the company at any time for a market price. However the open-end market

price is influenced greatly by the fund managers. On the other hand, closed-end mutual fund

has a fixed number of shares and the value of the shares fluctuates with the market. But with

34

close-end funds, the fund manager has less influence because the price of the underlining

owned securities has greater influence.

Mutual fund is a mechanism for pooling the resources by issuing units to the investors and

investing funds in securities in accordance with objectives as disclosed in offer document.

Investments in securities are spread across a wide cross-section of industries and sectors and

thus the risk is reduced. Diversification reduces the risk because all stocks may not move in

the same direction in the same proportion at the same time.

Mutual fund issues units to the investors in accordance with quantum of money invested by

them. Investors of mutual funds are known as unit holders. The profits or losses are shared by

the investors in proportion to their investments. The mutual funds normally come out with a

number of schemes with different investment objectives, which are launched from time to

time.

The concept of mutual fund originated in Belgium by the ―Society Generale de Belgique” in

the year 1822. Unit Trust of India was the first mutual fund set up in India in the year 1963.

In early 1990s, Government allowed public sector banks and institutions to set up mutual

funds. SEBI formulates policies and regulates the mutual funds to protect the interest of the

investors. All mutual funds whether promoted by public sector or private sector entities

including those promoted by foreign entities are governed by the same set of Regulations.

A mutual fund is set up in the form of a trust, which has sponsor, trustees, Asset Management

Company (AMC) and custodian. The trust is established by a sponsor or more than one

sponsor who is like promoter of a company. The trustees of the mutual fund hold its property

for the benefit of the unit holders. Asset Management Company (AMC) approved by SEBI

manages the funds by making investments in various types of securities. Custodian, who is

registered with SEBI, holds the securities of various schemes of the fund in its custody. The

trustees are vested with the general power of superintendence and direction over AMC. They

monitor the performance and compliance of SEBI Regulations by the mutual fund.

The performance of a particular scheme of a mutual fund is denoted by Net Asset Value

(NAV). In simple words, Net Asset Value is the market value of the securities held by the

scheme. Since market value of securities changes every day, NAV of a scheme also varies on

35

day-to-day basis. The NAV per unit is the market value of securities of a scheme divided by

the total number of units of the scheme on any particular date. For example, if the market

value of securities of a mutual fund scheme is Rs 200 lakhs and the mutual fund has issued 10

lakhs units of Rs. 10 each to the investors, then the NAV per unit of the fund is Rs.20. NAV

is required to be disclosed by the mutual funds on a regular basis - daily or weekly -

depending on the type of scheme.

TYPES OF MUTUAL FUNDS SCHEMES

Mutual fund schemes may be classified on the basis of its structure and its investment

objective:-

A) By Structure

1) Open-ended Fund

An open-end fund is one that is available for subscription all through the year. These do not

have a fixed maturity. Investors can conveniently buy and sell units at Net Asset Value

("NAV") related prices. The key feature of open-end schemes is liquidity. The term Mutual

fund is the common name for an open-end investment company. Being open-ended means

that at the end of every day, the investment management company sponsoring the fund issues

new shares to investors and buys back shares from investors wishing to leave the fund.

2) Closed-end Funds

A closed-end fund has a stipulated maturity period which generally ranging from 3 to

15 years. The fund is open for subscription only during a specified period. Investors

can invest in the scheme at the time of the initial public issue and thereafter they can

buy or sell the units of the scheme on the stock exchanges where they are listed. In

order to provide an exit route to the investors, some close-ended funds give an option

of selling back the units to the Mutual Fund through periodic repurchase at NAV

related prices. SEBI Regulations stipulate that at least one of the two exit routes is

provided to the investor. A close-ended fund or scheme has a stipulated maturity

period e.g. 5-7 years. The fund is open for subscription only during a specified period

36

at the time of launch of the scheme. Investors can invest in the scheme at the time of

the initial public issue and thereafter they can buy or sell the units of the scheme on

the stock exchanges.

3) Interval Funds

Interval funds combine the features of open-ended and close-ended schemes. They are

open for sale or redemption during pre-determined intervals at NAV related prices.

B) By Investment Objective

1) Growth Funds

The aim of growth funds is to provide capital appreciation over the medium to long

term. Such schemes normally invest a majority of their corpus in equities. It has been

proved that returns from stocks, have outperformed most other kind of investments

held over the long term. Growth schemes are ideal for investors for a period of time.

1) Income Funds

The aim of income funds is to provide regular and steady income to investors. Such

schemes generally invest in fixed income securities such as bonds, corporate

debentures and Government securities. Income Funds are ideal for capital stability

and regular income.

2) Balanced Funds

The aim of balanced funds is to provide both growth and regular income. Such

schemes periodically distribute a part of their earning and invest both in equities and

fixed income securities in the proportion indicated in their offer documents. In a rising

stock market, the NAV of these schemes may not normally keep pace, or fall equally

when the market falls. These are ideal for investors looking for a combination of

income and moderate growth.

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3) Money Market Funds

The aim of money market funds is to provide easy liquidity, preservation of capital

and moderate income. These schemes generally invest in safer short-term instruments

such as treasury bills, certificates of deposit, commercial paper and inter-bank call

money. Returns on these schemes may fluctuate depending upon the interest rates

prevailing in the market. Money market funds have relatively low risks, compared to

other mutual funds (and most other investments). By law, they can invest in only

certain high-quality, short-term investments issued by the U.S. government, U.S.

corporations, and state and local governments. Money market funds try to keep their

net asset value (NAV) — which represents the value of one share in a fund — at a

stable $1.00 per share. But the NAV may fall below $1.00 if the fund's investments

perform poorly. Investor losses have been rare, but they are possible. Money market

funds pay dividends that generally reflect short-term interest rates, and historically the

returns for money market funds have been lower than for either bond or stock funds.

That's why "inflation risks" — the risk that inflation will outpace and erode

investment returns over time — can be a potential concern for investors in money

market funds.

38

GROWTH IN ASSETS UNDER MANAGEMENT

Trading Forex

39

Introduction

The foreign exchange market (forex, FX, or currency market) is a global, worldwide

decentralized 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

around 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 Sterling, even though the business'

income is in US dollars. It also supports direct speculation in the value of currencies, and the

carry trade, speculation on the change in interest rates in two currencies.

In a typical foreign exchange transaction, a party purchases a quantity of one currency by

paying a quantity of another currency. The modern foreign exchange market began forming

during the 1970s after three decades of government restrictions on foreign exchange

transactions (the Bretton Woods system of monetary management established the rules for

commercial and financial relations among the world's major industrial states after World War

II), 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 representing the largest asset class in the world leading to

high liquidity;

its geographical dispersion;

its continuous operation: 24 hours a day except weekends, i.e. trading from 20:15

GMT on Sunday until 22:00 GMT Friday;

the variety of factors that affect exchange rates;

the low margins of relative profit compared with other markets of fixed income; and

40

the use of leverage to enhance profit and loss margins and with respect to account

size.

As such, it has been referred to as the market closest to the ideal of perfect competition,

notwithstanding currency intervention by central banks. According to the Bank for

International Settlements, as of April 2010, average daily turnover in global foreign exchange

markets is estimated at $3.98 trillion, a growth of approximately 20% over the $3.21 trillion

daily volume as of April 2007. Some firms specializing on foreign exchange market had put

the average daily turnover in excess of US$4 trillion.

Retail participation in off-exchange foreign currency (forex) markets has increased

dramatically in the past few years. If you are a retail investor considering participating in this

market, you need to fully understand the market and some of its unique features.

Like many other investments,off-exchange foreign currency trading carries a high level of

risk and may not be suitable for all investors. In fact, you could lose all of your initial

investment and may be liable for additional losses. Therefore, you need to understand the

risks associated with this product.

You should also understand the language of the forex markets before trading in those

markets. The glossary in the back of this booklet defines some of the most commonly used

terms.

It does not suggest that you should or should not participate in the retail off exchange foreign

currency market. You should make that decision after consulting with your financial advisor

and considering your own financial situation and objectives. In that regard, you may find this

booklet helpful as one component of the due diligence process that investors are encouraged

to undertake before making any investment decisions about the off-exchange foreign

currency market.

41

The Foreign Currency Markets

Foreign currency exchange rates are what it costs to exchange one country’s currency for

another country’s currency. For example, if you go to England on vacation, you will have to

pay for your hotel, meals, admissions fees, souvenirs,and other expenses in British pounds.

Since your money is all in US dollars,you will have to use (sell) some of your dollars to buy

British pounds.

Trading in foreign currency exchange rates

As you can see from the London vacation example,currency exchange rates fluctuate. As the

value of one currency rises or falls relative to another, traders decide to buy or sell currencies

to make profits. Retail customers also participate in the forex market, generally as speculators

who are hoping to profit from changes in currency rates.

Foreign currency exchange rates may be traded in one of three ways:

1.) On an exchange that is regulated by the Commodity FuturesTrading Commission (CFTC).

For example, the Chicago Mercantile Exchange offers currency futures and options on

futures products. Exchange-traded currency futures and options provide their users with a

liquid, secondary market for contracts with a set unit size, a fixed expiration date and

centralized clearing.

2.) On an exchange that is regulated by the Securities and

Exchange Commission (SEC). For example, the Philadelphia

Stock Exchange offers options on currencies (i.e., the right but not the obligation to buy or

sell a currency at a specific rate within aspecified time). Exchange-traded options on

currencies have characteristics similar to exchangetraded futures and options (e.g.,a liquid,

secondary market with a set size, a fixed expiration date and centralized clearing).

42

3.) In the off-exchange, also called the over-the-counter (OTC) market. A retail customer

trades directly with a counterparty

and there is no exchange or central clearinghouse to support

the transaction.

Working of the off-exchange currency market

The off-exchange forex market is a large, growing and liquid financial market that operates

24 hours a day, 5 days a week. It is not a market in the traditional sense because there is no

central trading location or “exchange.” Most of the trading is conducted by telephone or

through electronic trading networks.

The primary market for currencies is the “interbank market” where banks, insurance

companies, large corporations and other large financial institutions manage the risks

associated with fluctuations in currency rates. The true interbank market is only available to

institutions that trade in large quantities and have a very high net worth.

In recent years, a secondary OTC market has developed that

permits retail investors to participate in forex transactions.While

this secondary market does not provide the same prices as the

interbank market, it does have many of the same characteristics.

Source: Alpari.co.uk

43

Quotes and prices of foreign currencies

Currencies are designated by three letter symbols.The standard symbols for some of the most

commonly traded currencies are:

EUR – Euros

USD – United States dollar

CAD – Canadian dollar

GBP – British pound

JPY – Japanese yen

AUD – Australian dollar

CHF – Swiss franc

Forex transactions are quoted in pairs because you are buyingone currency while selling

another.The first currency is the base currency and the second currency is the quote

currency. The price, or rate, that is quoted is the amount of the second currency required to

purchase one unit of the first currency. For example, if EUR/USD has an ask price of 1.2178,

you can buy one Euro for 1.2178 US dollars.

Currency pairs are often quoted as bid-ask spreads. The first part of the quote is the amount

of the quote currency you will receive in exchange for one unit of the base currency (the bid

price) and the second part of the quote is the amount of the quote currency you must spend

for one unit of the base currency (the ask or offer price). In other words,a EUR/USD spread

of 1.2170/1.2178 means that you can sell one Euro for $1.2170 and buy one Euro for

$1.2178.

A dealer may not quote the full exchange rate for both sides of the spread. For example, the

EUR/USD spread discussed above could be quoted as 1.2170/78.The customer should

understand that the first three numbers are the same for both

sides of the spread.

44

Source: Alpari.co.uk

Transaction costs

Although dealers who are regulated by NFA must disclose their

charges to retail customers, there are no rules about how a dealer charges a customer for the

services the dealer provides or that limit how much the dealer can charge. Before opening an

account, you should check with several dealers and compare their charges as well as their

services. If you were

solicited by or place your trades through someone other than the dealer, or if your account is

managed by someone, you may be charged a separate amount for the third party’s services.

Some firms charge a per trade commission, while other firms

charge amark-up bywidening the spread between the bid and ask prices they give their

customers. In the earlier example, assume that the dealer can get a EUR/USD spread of

1.2173/75 from a bank. If the dealer widens the spread to 1.2170/78 for its customers, the

dealer has marked up the spread by .0003 on each side.

Some firms may charge both a commission and a mark up.Firms may also charge a different

markup for buying the base currency than for selling it.You should read your agreement with

the dealer carefully and be sure you understand how the firm will charge you for your trades.

45

Closure of trade

Retail forex transactions are normally closed out by entering

into an equal but opposite transaction with the dealer. For example, if you bought Euros with

U.S. dollars you would close out the trade by selling Euros for U.S. dollars. This is also

called an offsetting or liquidating transaction.

Most retail forex transactions have a settlement date when the currencies are due to be

delivered. If you want to keep your position open beyond the settlement date, you must roll

the position over to the next settlement date. Some dealers roll open positions over

automatically, while other dealers may require you to request the rollover. On most open

positions, interest is earned on the long currency and paid on the short currency every time

the position is rolled over.The interest that is earned or paid is usually the target interest rate

set by the central bank of the country that issued the currency. If the interest rates of the two

countries are different, then there is usually an interest rate differential which will result in a

net earning or payment of interest.This net interest is often called the rollover rate. It is

calculated and either added or deducted from the trader's account at the rollover time of each

trading day that the position is open. You should check your agreement with the dealer to see

what, if anything, you must do to roll a position over and what fees you will pay for the

rollover.

Calculation of profits and losses

When you close out a trade, you can calculate your profits and losses using the following

formula:

Price(exchange rate) Price when buying Profit

when selling the - the base currency X = or

base currency transaction size Loss

46

Assume you buy Euros (EUR/USD) at 1.2178 and sell Euros

at 1.2188. If the transaction size is 100,000 Euros, you will

have a $100 profit.

($1.2188 – $1.2178) X 100,000 = $.001 X 100,000 = $100

Similarly, if you sell Euros (EUR/USD) at 1.2170 and buy Euros

at 1.2180, you will have a $100 loss.

($1.2170 – $1.2180) X 100,000 = – $.001 X 100,000 = – $100

You can also calculate your unrealized profits and losses on open positions. Just substitute

the current bid or ask rate for the

action you will take when closing out the position. For example,

if you bought Euros at 1.2178 and the current bid rate is 1.2173, you have an unrealized loss

of $50.

($1.2173 – $1.2178) X 100,000 = – $.0005 X 100,000 = – $50

Similarly, if you sold Euros at 1.2170 and the current ask rate is

1.2165, you have an unrealized profit of $50.

($1.2170 – $1.2165) X 100,000 = $.0005 X 100,000 = $50

If the quote currency is not in US dollars, you will have to convert the profit or loss to US

dollars at the dealer’s rate. Further, if the dealer charges commissions or other fees, you must

subtract those commissions and fees from your profits and add them to your losses to

determine your true profits and losses.

47

Minimum money needed to trade forex

Forex dealers can set their own minimum account sizes, so you will have to ask the dealer

how much money you must put up to begin trading.Most dealers will also require you to have

a certain amount of money in your account for each transaction.

This security deposit, sometimes called margin, is a percentage of the transaction value and

may be different for different currencies. A security deposit acts as a performance bond and is

not a down payment or partial payment for the transaction.

Dealers who are regulated by the CFTC and NFA are required to calculate and collect

security deposits that equal or exceed the percentage set by their rules. Although the

percentage of the security deposit remains constant, the dollar amount of the

security deposit will change with changes in the value of the currency being traded.

The formula for calculating the security deposit is :

Current price of Security Security deposit

base currency x X deposit % = requirement given

transaction size in quote currency

Returning to our Euro example with an initial price of $1.2178 for each Euro and a

transaction size of 100,000 Euros, a 2% security deposit would be $2,435.60.

$1.2178 X 100,000 X .02 = $2,435.60

Security deposits allow customers to control transactions with a value many times larger than

the funds in their accounts. In this example, $2,435.60 would control $121,780 worth of

Euros..

Value of Euros = $1.2178 X 100,000= $121,780

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This ability to control a large amount of one currency, in this case the Euro, using a very

small percentage of its value is called leverage or gearing. In our example, the leverage is

50:1 because the security deposit controls Euros worth 50 times the amount of the deposit.

The higher the leverage, the more likely you are to lose your

entire investment if exchange rates go down when you expect

them to go up (or go up when you expect them to go down).

Leverage of 50:1 means that you will lose your initial investment when the currency loses (or

gains) 2% of its value, and you will lose more than your initial investment if the currency

loses (or gains) more than 2% of its value. If you want to keep the position open, you may

have to deposit additional funds to maintain a 2% security deposit.

Dealers may not guarantee that you will not lose more than

you invest, which includes both the initial deposit and any subsequent deposits to keep the

position open. Dealers may charge you for losses that are greater than the amount you

invested.

Risks of Trading in the Forex Market

Although every investment involves some risk,the risk of loss

in trading off-exchange forex contracts can be substantial.

Therefore, if you are considering participating in this market, you should understand some of

the risks associated with this product so you can make an informed decision before investing.

THE MARKET COULD MOVE AGAINST YOU.

No one can predict with certainty which way exchange rates will go, and the forex market is

volatile. Fluctuations in the foreign exchange rate between the time you place the trade and

49

the time you close it out will affect the price of your forex contract and the potential profit

and losses relating to it.

YOU COULD LOSE YOUR ENTIRE INVESTMENT.

You will be required to deposit an amount of money (often referred to as a “security deposit”

or "margin") with your forex dealer in order to buy or sell an off-exchange forex contract. As

discussed earlier, a relatively small amount of money can enable you to hold a forex position

worth many times the account value.This is referred to as leverage or gearing.The smaller the

deposit in relation to the underlying value of the contract, the greater the leverage.

If the price moves in an unfavourable direction, high leverage can produce large losses in

relation to your initial deposit. In fact,even a small move against your position may result in a

large loss, including the loss of your entire deposit. Depending on your agreement with your

dealer, you may also be required to pay additional losses.

Other Issues to Consider

In addition to understanding how the off-exchange forex market

works and some of the risks associated with this product, there are other unique features

about the market that you need to understand before you decide whether to invest in this

market

and which dealer to use.

Regulatory of off-exchange foreign currency trading

The Commodity Futures Trading Commission (CFTC) has

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regulatory authority over retail off-exchange forex markets. The

Commodity Exchange Act (CEA) allows the sale of OTC forex

futures and options to retail customers if, and only if, the counterparty (the person on the

other side of the transaction) is a regulated entity. These regulated entities include the

following:

• Financial institutions, such as banks and savings associations,

• SEC-registered broker dealers and certain of their affiliates,

• CFTC-registered futures commission merchants (FCMs) and certain of their affiliates,

• CFTC-Registered Retail Foreign Exchange Dealers

• Financial holding companies,

• insurance companies, and

• investment bank holding companies.

In addition, except for the regulated entities noted above, any

entity or individual soliciting retail forex orders, managing

retail forex accounts or operating a retail forex pool must register with the CFTC as an

Introducing Broker, Commodity Trading Advisor or Commodity Pool Operator or as an

associated person of one of these entities. These entities and individuals must also become

Members of National Futures Association.

Carbon Credit

51

Carbon credits and carbon markets are a component of national and international attempts to

mitigate the growth in concentrations of greenhouse gases (GHGs). One carbon credit is

equal to one metric tonne of carbon dioxide, or in some markets, carbon dioxide equivalent

gases. Carbon trading is an application of an emissions trading approach. Greenhouse gas

emissions are capped and then markets are used to allocate the emissions among the group of

regulated sources.

The goal is to allow market mechanisms to drive industrial and commercial processes in the

direction of low emissions or less carbon intensive approaches than those used when there is

no cost to emitting carbon dioxide and other GHGs into the atmosphere. Since GHG

mitigation projects generate credits, this approach can be used to finance carbon reduction

schemes between trading partners and around the world.

There are also many companies that sell carbon credits to commercial and individual

customers who are interested in lowering their carbon footprint on a voluntary basis. These

carbon offsetters purchase the credits from an investment fund or a carbon development

company that has aggregated the credits from individual projects. Buyers and sellers can also

use an exchange platform to trade, such as the Carbon Trade Exchange, which is like a stock

exchange for carbon credits. The quality of the credits is based in part on the validation

process and sophistication of the fund or development company that acted as the sponsor to

the carbon project. This is reflected in their price; voluntary units typically have less value

than the units sold through the rigorously validated Clean Development Mechanism.

Background

Burning of fossil fuels is a major source of industrial greenhouse gas emissions[citation

needed], especially for power, cement, steel, textile, fertilizer and many other industries

which rely on fossil fuels (coal, electricity derived from coal, natural gas and oil). The major

greenhouse gases emitted by these industries are carbon dioxide, methane, nitrous oxide,

hydrofluorocarbons (HFCs), etc., all of which increase the atmosphere's ability to trap

infrared energy and thus affect the climate.

52

The concept of carbon credits came into existence as a result of increasing awareness of the

need for controlling emissions. The IPCC (Intergovernmental Panel on Climate Change) has

observed that:

“Policies that provide a real or implicit price of carbon could create incentives for producers

and consumers to significantly invest in low-GHG products, technologies and processes.

Such policies could include economic instruments, government funding and regulation”

While noting that a tradable permit system is one of the policy instruments that has been

shown to be environmentally effective in the industrial sector, as long as there are reasonable

levels of predictability over the initial allocation mechanism and long-term price.

The mechanism was formalized in the Kyoto Protocol, an international agreement between

more than 170 countries, and the market mechanisms were agreed through the subsequent

Marrakesh Accords. The mechanism adopted was similar to the successful US Acid Rain

Program to reduce some industrial pollutants.

Emission allowances

Under the Kyoto Protocol, the 'caps' or quotas for Greenhouse gases for the developed Annex

1 countries are known as Assigned Amounts and are listed in Annex B. The quantity of the

initial assigned amount is denominated in individual units, called Assigned amount units

(AAUs), each of which represents an allowance to emit one metric tonne of carbon dioxide

equivalent, and these are entered into the country's national registry.

In turn, these countries set quotas on the emissions of installations run by local business and

other organizations, generically termed 'operators'. Countries manage this through their

national registries, which are required to be validated and monitored for compliance by the

UNFCCC. Each operator has an allowance of credits, where each unit gives the owner the

right to emit one metric tonne of carbon dioxide or other equivalent greenhouse gas.

Operators that have not used up their quotas can sell their unused allowances as carbon

credits, while businesses that are about to exceed their quotas can buy the extra allowances as

credits, privately or on the open market. As demand for energy grows over time, the total

53

emissions must still stay within the cap, but it allows industry some flexibility and

predictability in its planning to accommodate this.

By permitting allowances to be bought and sold, an operator can seek out the most cost-

effective way of reducing its emissions, either by investing in 'cleaner' machinery and

practices or by purchasing emissions from another operator who already has excess 'capacity'.

Since 2005, the Kyoto mechanism has been adopted for CO2 trading by all the countries

within the European Union under its European Trading Scheme (EU ETS) with the European

Commission as its validating authority. From 2008, EU participants must link with the other

developed countries who ratified Annex I of the protocol, and trade the six most significant

anthropogenic greenhouse gases. In the United States, which has not ratified Kyoto, and

Australia, whose ratification came into force in March 2008, similar schemes are being

considered.

Kyoto's 'Flexible mechanisms'

A tradable credit can be an emissions allowance or an assigned amount unit which was

originally allocated or auctioned by the national administrators of a Kyoto-compliant cap-

and-trade scheme, or it can be an offset of emissions. Such offsetting and mitigating activities

can occur in any developing country which has ratified the Kyoto Protocol, and has a national

agreement in place to validate its carbon project through one of the UNFCCC's approved

mechanisms. Once approved, these units are termed Certified Emission Reductions, or CERs.

The Protocol allows these projects to be constructed and credited in advance of the Kyoto

trading period.

The Kyoto Protocol provides for three mechanisms that enable countries or operators in

developed countries to acquire greenhouse gas reduction credits

Under Joint Implementation (JI) a developed country with relatively high costs of

domestic greenhouse reduction would set up a project in another developed country.

Under the Clean Development Mechanism (CDM) a developed country can 'sponsor'

a greenhouse gas reduction project in a developing country where the cost of

greenhouse gas reduction project activities is usually much lower, but the atmospheric

54

effect is globally equivalent. The developed country would be given credits for

meeting its emission reduction targets, while the developing country would receive

the capital investment and clean technology or beneficial change in land use.

Under International Emissions Trading (IET) countries can trade in the international

carbon credit market to cover their shortfall in Assigned amount units. Countries with

surplus units can sell them to countries that are exceeding their emission targets under

Annex B of the Kyoto Protocol.

These carbon projects can be created by a national government or by an operator within the

country. In reality, most of the transactions are not performed by national governments

directly, but by operators who have been set quotas by their country.

Emission markets

For trading purposes, one allowance or CER is considered equivalent to one metric ton of

CO2 emissions. These allowances can be sold privately or in the international market at the

prevailing market price. These trade and settle internationally and hence allow allowances to

be transferred between countries. Each international transfer is validated by the UNFCCC.

55

Each transfer of ownership within the European Union is additionally validated by the

European Commission.

Climate exchanges have been established to provide a spot market in allowances, as well as

futures and options market to help discover a market price and maintain liquidity. Carbon

prices are normally quoted in Euros per tonne of carbon dioxide or its equivalent (CO2e).

Other greenhouse gasses can also be traded, but are quoted as standard multiples of carbon

dioxide with respect to their global warming potential. These features reduce the quota's

financial impact on business, while ensuring that the quotas are met at a national and

international level.

Currently there are six exchanges trading in carbon allowances: the Chicago Climate

Exchange, European Climate Exchange, NASDAQ OMX Commodities Europe, PowerNext,

Commodity Exchange Bratislava and the European Energy Exchange. NASDAQ OMX

Commodities Europe listed a contract to trade offsets generated by a CDM carbon project

called Certified Emission Reductions (CERs). Many companies now engage in emissions

abatement, offsetting, and sequestration programs to generate credits that can be sold on one

of the exchanges. At least one private electronic market has been established in 2008:

CantorCO2e. Carbon credits at Commodity Exchange Bratislava are traded at special

platform - Carbon place.

Managing emissions is one of the fastest-growing segments in financial services in the City

of London with a market estimated to be worth about €30 billion in 2007. Louis Redshaw,

head of environmental markets at Barclays Capital predicts that "Carbon will be the world's

biggest commodity market, and it could become the world's biggest market overall."

Setting a market price for carbon

Unchecked, energy use and hence emission levels are predicted to keep rising over time.

Thus the number of companies needing to buy credits will increase, and the rules of supply

and demand will push up the market price, encouraging more groups to undertake

environmentally friendly activities that create carbon credits to sell.

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An individual allowance, such as an Assigned amount unit (AAU) or its near-equivalent

European Union Allowance (EUA), may have a different market value to an offset such as a

CER. This is due to the lack of a developed secondary market for CERs, a lack of

homogeneity between projects which causes difficulty in pricing, as well as questions due to

the principle of supplementarity and its lifetime. Additionally, offsets generated by a carbon

project under the Clean Development Mechanism are potentially limited in value because

operators in the EU ETS are restricted as to what percentage of their allowance can be met

through these flexible mechanisms.

Yale University economics professor William Nordhaus argues that the price of carbon needs

to be high enough to motivate the changes in behavior and changes in economic production

systems necessary to effectively limit emissions of greenhouse gases.

Raising the price of carbon will achieve four goals. First, it will provide signals to consumers

about what goods and services are high-carbon ones and should therefore be used more

sparingly. Second, it will provide signals to producers about which inputs use more carbon

(such as coal and oil) and which use less or none (such as natural gas or nuclear power),

thereby inducing firms to substitute low-carbon inputs. Third, it will give market incentives

for inventors and innovators to develop and introduce low-carbon products and processes that

can replace the current generation of technologies. Fourth, and most important, a high carbon

price will economize on the information that is required to do all three of these tasks.

Through the market mechanism, a high carbon price will raise the price of products according

to their carbon content. Ethical consumers today, hoping to minimize their “carbon

footprint,” have little chance of making an accurate calculation of the relative carbon use in,

say, driving 250 miles as compared with flying 250 miles. A harmonized carbon tax would

raise the price of a good proportionately to exactly the amount of CO2 that is emitted in all

the stages of production that are involved in producing that good. If 0.01 of a ton of carbon

emissions results from the wheat growing and the milling and the trucking and the baking of

a loaf of bread, then a tax of $30 per ton carbon will raise the price of bread by $0.30. The

“carbon footprint” is automatically calculated by the price system. Consumers would still not

know how much of the price is due to carbon emissions, but they could make their decisions

confident that they are paying for the social cost of their carbon footprint.

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Nordhaus has suggested, based on the social cost of carbon emissions, that an optimal price

of carbon is around $30(US) per ton and will need to increase with inflation.

The social cost of carbon is the additional damage caused by an additional ton of carbon

emissions. The optimal carbon price, or optimal carbon tax, is the market price (or carbon

tax) on carbon emissions that balances the incremental costs of reducing carbon emissions

with the incremental benefits of reducing climate damages.If a country wished to impose a

carbon tax of $30 per ton of carbon, this would involve a tax on gasoline of about 9 cents per

gallon. Similarly, the tax on coal-generated electricity would be about 1 cent per kWh, or 10

percent of the current retail price. At current levels of carbon emissions in the United States, a

tax of $30 per ton of carbon would generate $50 billion of revenue per year.

Carbon credits can reduce emissions

Carbon credits create a market for reducing greenhouse emissions by giving a monetary value

to the cost of polluting the air. Emissions become an internal cost of doing business and are

visible on the balance sheet alongside raw materials and other liabilities or assets.

For example, consider a business that owns a factory putting out 100,000 tonnes of

greenhouse gas emissions in a year. Its government is an Annex I country that enacts a law to

limit the emissions that the business can produce. So the factory is given a quota of say

80,000 tonnes per year. The factory either reduces its emissions to 80,000 tonnes or is

required to purchase carbon credits to offset the excess. After costing up alternatives the

business may decide that it is uneconomical or infeasible to invest in new machinery for that

year. Instead it may choose to buy carbon credits on the open market from organizations that

have been approved as being able to sell legitimate carbon credits.

We should consider the impact of manufacturing alternative energy sources. For example, the

energy consumed and the Carbon emitted in the manufacture and transportation of a large

wind turbine would prohibit a credit being issued for a predetermined period of time.

One seller might be a company that will offer to offset emissions through a project in

the developing world, such as recovering methane from a swine farm to feed a power

station that previously would use fossil fuel. So although the factory continues to emit

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gases, it would pay another group to reduce the equivalent of 20,000 tonnes of carbon

dioxide emissions from the atmosphere for that year.

Another seller may have already invested in new low-emission machinery and have a

surplus of allowances as a result. The factory could make up for its emissions by

buying 20,000 tonnes of allowances from them. The cost of the seller's new

machinery would be subsidized by the sale of allowances. Both the buyer and the

seller would submit accounts for their emissions to prove that their allowances were

met correctly.

Additionality and its importance

It is also important for any carbon credit (offset) to prove a concept called additionality. The

concept of additionality addresses the question of whether the project would have happened

anyway, even in the absence of revenue from carbon credits. Only carbon credits from

projects that are "additional to" the business-as-usual scenario represent a net environmental

benefit. Carbon projects that yield strong financial returns even in the absence of revenue

from carbon credits; or that are compelled by regulations; or that represent common practice

in an industry are usually not considered additional, although a full determination of

additionality requires specialist review.

It is generally agreed that voluntary carbon offset projects must also prove additionality in

order to ensure the legitimacy of the environmental stewardship claims resulting from the

retirement of the carbon credit (offset). According the World Resources Institute/World

Business Council for Sustainable Development (WRI/WBCSD). "GHG emission trading

programs operate by capping the emissions of a fixed number of individual facilities or

sources. Under these programs, tradable 'offset credits' are issued for project-based GHG

reductions that occur at sources not covered by the program. Each offset credit allows

facilities whose emissions are capped to emit more, in direct proportion to the GHG

reductions represented by the credit. The idea is to achieve a zero net increase in GHG

emissions, because each tonne of increased emissions is 'offset' by project-based GHG

reductions. The difficulty is that many projects that reduce GHG emissions (relative to

historical levels) would happen regardless of the existence of a GHG program and without

any concern for climate change mitigation. If a project 'would have happened anyway,' then

issuing offset credits for its GHG reductions will actually allow a positive net increase in

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GHG emissions, undermining the emissions target of the GHG program. Additionality is thus

critical to the success and integrity of GHG programs that recognize project-based GHG

reductions."

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Exchange Traded Funds

An Exchange Traded Fund (ETF) is an open-ended fund, it is like a unit investment

instrument that is registered under the Investment Company Act of 1940, and traded by

investors on a registered national securities exchange. The exchange traded fund is issues

shares or giving the owner of the shares an economic interest in the fund assets. An index

based exchange traded fund is one which track the performance of an index in the market, by

holding in its portfolio either the stock which content in the index or the index it is a

representative sample of the securities in the index. The number of shares outstanding in an

exchange traded fund is not fixed. Its vary as per the movement of the market and the

requirement of the market forces. Hence it is also called "open-ended" exchange traded funds

or ETFs.

Exchange Traded Funds are just what their name implies: baskets of securities that are traded,

like individual stocks, on an exchange. It is being traded in the stock exchange like an

individual companies share in the market. Unlike regular open-end mutual funds. It can be

bought and sold throughout the trading day like any stock.

The exchange traded funds first came into existence in the USA in 1993. Where it is being

traded in the USA market and it took several years for them to attract public interest. But

once they did, the volumes took off like anything in the market. Over the time it becomes

very popular in the market and with in few years more than $505.50 billion is invested in

more than 660 exchange traded funds which are got listed in the world market. And more

than 60% of trading volumes on the American Stock Exchange are from exchange traded

funds only.

In other words Exchange Traded Funds are basically index funds that are listed and traded on

exchanges like stocks. Before it is development and known as of Exchange Traded Funds

(ETFs). This was not possible before, but globally exchange traded funds have opened a

whole new phenomena of investment opportunities in to the retail as well as institutional

money market. They enable investors to gain all types of the exposure to entire stock markets

in different countries and specific sectors with relative ease, on a real-time basis, and it is

available on the real time basis in the global market at a lower cost than many other forms of

investment in the financial market.

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It’s also provides exposure to an index of securities that trade on the exchange like a single

stock. There are different types of the exchanges traded funds in the global market that offer a

number of advantage & disadvantages over a traditional open-ended index funds. The first

exchange traded funds in India, stated on National Stock Exchange of India (NSE), that is

known as “Nifty BeEs (Nifty Benchmark Exchange Traded Scheme) based on S&P CNX

Nifty, was launched in January 2002 by Benchmark Mutual Fund. After a long-long time

interval where as it is started trading in the USA market since 1993. Its symbol on NSE is

“NIFTYBEES”.

There are different types of exchange traded funds in the market which are given as below,

SPDRs - The S&P 500 Depository Receipts were the first ETFs to be in the market in

1993. SPDRs track the S&P 500. There are select sector SPDR funds available.

These are traded on he AMEX.

QQQs - Popularly known as Cubes are listed on the NASDAQ and track the

NASDAQ-100. It is one of the most liquid ETFs. The average daily trading volume

in QQQ is around 89 million shares.

Shares - World Equity Benchmark Shares are listed on MSCI Indices and TRAHK

(Tracks) based on the Hang Seng Index.

HOLDRs - represents an undivided beneficial ownership in common stock of a group

of several companies within a specified industry. HOLDRs are unlike other ETFs,

which add and drop shares depending on changes in the underlying index. In

HOLDRs the underlying securities once pre-defined do not change unless due to

mergers, acquisitions or other occurrences those lead to the termination of the

common shares of the company.

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ETFs derive more liquidity:- ETFs derive their liquidity first from trading the shares in

the secondary market and second through the in-kind creation / redemption process with the

fund in creation unit size.

Due to the unique in-kind creation / redemption process of ETFs, the liquidity of an

ETF is actually the liquidity in the underlying ETFs allow investors to take benefit of

intra-day movements in the market, which is not possible with open-ended funds.

With ETFs one pays lower management fees. As ETFs are listed on the exchange,

distribution and other operational expenses are significantly lower, making it cost-

effective. These savings in cost are passed on to the investor. ETFs have lower

tracking error due to the in-kind for creation and redemption.

Due to its unique structure, the long-term investors are insulated from short term

trading in the fund.

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Gold Exchange Traded Fund

INTRODUCTION

Gold exchange-traded products are exchange-traded funds (ETFs), closed-end funds (CEFs)

and exchange-traded notes (ETNs) that aim to track the price of gold. Gold exchange-traded

products are traded on the major stock exchanges including Zurich, Mumbai, London, Paris

and New York. As of 25 June 2010, physically backed funds held 2,062.6 tonnes of gold in

total for private and institutional investors. Each gold ETF, ETN, and CEF has a different

structure outlined in its prospectus. Some such instruments do not necessarily hold physical

gold. For example, gold ETNs generally track the price of gold using derivatives.

History

The first gold exchange-traded product was Central Fund of Canada, a closed-end fund

founded in 1961. It later amended its articles of incorporation in 1983 to provide investors

with an exchange-tradable product for ownership of gold and silver bullion. It has been listed

on the Toronto Stock Exchange since 1966 and the AMEX since 1986.

The idea of a gold exchange-traded fund was first conceptualized by Benchmark Asset

Management Company Private Ltd in India when they filed a proposal with the SEBI in May

2002. However it did not receive regulatory approval at first and was only launched later in

March 2007. The first gold ETF actually launched was Gold Bullion Securities, which listed

28 March 2003 on the Australian Stock Exchange. Graham Tuckwell, the founder and major

shareholder of ETF Securities, was behind the launch of this fund.

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Source: Alpari.co.uk

Fees

Typically a commission of 0.4% is charged for trading in gold ETFs and an annual storage

fee is charged. U.S. based transactions are a notable exception, where most brokers charge

only a small fraction of this commission rate. The annual expenses of the fund such as

storage, insurance, and management fees are charged by selling a small amount of gold

represented by each share, so the amount of gold in each share will gradually decline over

time. In some countries, gold ETFs represent a way to avoid the sales tax or the VAT which

would apply to physical gold coins and bars.

In the United States, sales of a gold ETF are treated as sales of the underlying commodity and

thus are taxed at the 28% capital gains rate for collectibles, rather than the rates applied to

equity securities.

Exchange-traded and closed-end funds

Central Fund of Canada and Central Gold Trust

The Central Fund of Canada (TSX: CEF.A, TSX: CEF.U, NYSE: CEF) and the Central Gold

Trust (TSX: GTU.UN, TSX: GTU.U, NYSE: GTU) are closed-end funds headquartered in

65

Calgary, Alberta, Canada, mandated to keep the bulk of their net assets in precious metals,

with a small percentage of cash. The Central Fund of Canada holds primarily a mix of gold

and silver, while the Central Gold Trust holds primarily gold.

The custodian of the precious metals assets of both funds is the main Calgary branch of

CIBC. Both funds are considered especially safe because of their published codes of

governance and ethics, the Central Fund's history of operation since 1961, and the funds'

simple prospectuses which equate shares of the closed-end funds with real units of ownership

in the trusts. As of October 2009, the Central Fund of Canada held 42.6 tonnes of gold and

2129.7 tonnes of silver in storage, and the Central Gold Trust held 13.6 tons of gold in

storage.

Claymore Gold Bullion ETF

In May 2009 Canadian-based Claymore Investments launched Claymore Gold Bullion ETF

(TSX: CGL). As of November 2010 the fund held 10.4 tonnes in gold assets.

Exchange Traded Gold

Several associated gold ETF's are grouped under the name Exchange Traded Gold. The

Exchange Traded Gold funds are sponsored by the World Gold Council, and as of June 2009

held 1,315.95 tonnes of gold in storage. Exchange Traded Gold securities are listed on

multiple exchanges worldwide by various ETF providers, including:

SPDR Gold Shares

SPDR Gold Shares marketed by State Street Global Markets LLC, an affiliate of State Street

Global Advisors, accounts for over 80 percent of the gold within the Exchange Traded Gold

group. As of 2009, SPDR Gold Shares is the largest and most liquid gold ETF on the market,

and the second-largest exchange-traded fund (ETF) in the world.

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Stock market listings:

United States (NYSE: GLD), Japan (TYO: 1326), Hong Kong (HKEX: 2840) and Singapore

(SGX:GLD 10US$)

The SPDR Gold Trust ETF (GLD) holds a proportion of its gold in allocated form in London

at HSBC, where it is audited twice a year by the company Inspectorate. GLD has been

criticized by Catherine Austin Fitts and Carolyn Betts for its extremely complex structure and

prospectus, possible conflict of interest in its relationships with HSBC and JPMorgan Chase

which are believed to have large short positions in gold, and overall lack of transparency.

GLD has been compared with mortgage-backed securities and collateralized debt obligations.

[9] These problems with SPDR Gold Trust are not necessarily unique to the fund, however as

the dominant gold ETF the fund has received the most extensive analysis.

Standard Risk Factors:

• Investment in Mutual Fund Units involves investment risks such as trading volumes,

settlement risk, liquidity risk, default risk including the possible loss of principal.

• As the price / value / interest rates of the securities in which the Scheme invests fluctuate,

the value of your investment in theScheme may go up or down depending on various factors

and forces affecting the capital markets/bullion market.

• Past performance of the Sponsor/AMC/Mutual Fund does not

guarantee future performance of the Scheme.

• The Sponsor is not responsible or liable for any loss or shortfall resulting from the

operations of the Scheme beyond the contribution of Rs. 1,50,000/- (Rupees One Lakh Fifty

Thousand Only) made by it towards the corpus of the Mutual Fund.

• The present Scheme is not a guaranteed or assured return

scheme.

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Some of the key factors affecting gold prices are:

Demand & Supply of Gold

The price of gold is affected by demand & supply of gold in India and in the global markets.

The demand and supply of gold in turn is influenced by factors such as forward selling by

gold producers, purchases made by gold producers to unwind gold hedge positions, central

bank purchases and sales, level of production in the gold producing countries etc.

Central Bank Actions

Central banks hold a part of their reserves in gold to meet

unexpected monetary needs, diversification of risk etc.

The quantum of their sale in the market is one of the major

determinants of gold prices. A higher supply than anticipated

would lead to subdued gold prices and vice versa. Central banks buy gold to augment their

existing reserves and to diversify from other asset classes. This acts as a support factor for

gold prices.

Inflation Trends and Interest Rate Changes

Gold has always been considered a good hedge against inflation. Rising inflation rates

typically appreciate gold prices and vice versa. It has an inverse relationship with interest

rates. As gold is pegged to the US dollar, interest rates in US affect gold prices. Whenever

interest rates fall, gold prices increase. Lowering interest rates increases gold prices as gold

becomes a better investment option vis-a-vis debt products that earn lower interest and vice

versa.

Gold ETF vs. Buying Physical Gold

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Parameters Gold ETF Jeweler Banks

Mode Demat Jewellery/Bar/Coins Bar/Coins

Safety/Storage No risk of theft High Risk High Risk

Purity of Gold 99.5 % or higher Can’t Say High on Purity

Pricing Transparent. Low on

cost.

Can’t Say High Mark up

Liquidity On business days on the

exchange

Relatively at High

Cost

Low on Liquidity

Denomination 1 unit (1 or 1/2 gram of

Gold)

Pre-defined Pre-defined

CONCLUSION

With development of economy, income of people is increasing. So there is need for portfolio

management services as everyone needs financial assistance. Since childhood we are taught

how to earn money but not to invest money.

Portfolio management is one of the emerging services in India. Indian market being one of

the highest returns providing market both in equity and debt. FII investments in India have

increased significantly in previous decade.

Earnings of Indians have increased have increased but due to limited knowledge of financial

market very few people invest in equity and debt. Instead of this people invest in traditional

investment avenues such as bank deposits, fixed deposits, etc.

Media had taken many efforts to improve financial knowledge of Indian population. In future

I believe portfolio management is going to be highly demanded service in India.

REFERENCES

69

Investment Analysis and Portfolio Management- by Frank K Reilly

Investment analysis and portfolio management-by keith c Brown

Investment Leadership and Portfolio Management- by Brian Singer, Barry Mandinach, Greg

Fedorinchik

Project Portfolio Management- by Harvey A. Levine

The Art of Asset Allocation - Asset Allocation Principles and Investment Strategies for Any

Market -by David M. Darst

Thesis-Portfolio management.pdf

WEBOGRAPHY

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

http://en.wikipedia.org/wiki/Portfolio_(finance)

Alpari.co.uk

http://www.investopedia.com/search/default.aspx?q=carbon%20credit#axzz1pKZQLpSn