RISK, RETURN AND INVESTMENT

ANURANI.M S3MBA

MGT1105409
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RISK
Risk refers to the possibility of incurring a loss in a financial transaction. The possibility of variation of actual return from expected return is termed as risk.

In terms of variability of return Risk is the potential for variability of return.

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An investment whose returns are fairly stable

- low risk investment. Eg: Govt. securities

An investment whose returns fluctuate significantly - high risk investment. Eg: equity shares

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ELEMENTS OF RISK
Factors which produce variation in the returns from an investment constitute the elements of risk. The elements of risk may be broadly classified in to two groups. Systematic risk Unsystematic risk

Total risk = Systematic risk+ Unsystematic risk

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SYSTEMATIC RISK

Comprises factors that are external to a company and affect a large number of securities simultaneously. They are uncontrollable in nature.
The impact of economic, political and social changes is system-wide and that portion of total variability in security returns caused by such system wide factors is referred to as systematic risk.

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Systematic risk
Interest rate risk Interest rate risk Market risk purchasing power

Affects debt securities like bonds and debentures.

The variation in bond prices caused due to the variation in the market interest rates is known as interest rate risk.

Market risk

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Affect shares The variation in risk due to the volatility of the stock market.

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 Purchasing power risk Variation in investor returns caused by inflation is known as purchasing power risk. UNSYSTEMATIC RISK The return from a security sometimes vary because of certain factors affecting only the company issuing such securities. Examples are raw material scarcity, labour strike, management inefficiency. When variability of returns occurs because of such firm- specific factors , it is known as unsystematic risk.
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Unsystematic risk Business risk Financial risk

Business risk
Operating environment of the company-source Business risk is the variability in operating income caused by the operating conditions of the company. Financial risk

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The variability in ESP due to the presence of debt in the capital structure of the company.

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MEASUREMENT OF RISK

Forecasted dividend + Forecasted end of the

period stock price R= 1

Initial investment
Expected return The expected return of an investment is the probability weighted average of all the possible returns. x = X p(X )
i=1 i i n

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X = Expected return

X = Possible returns
i

P(xi ) = Related probabilities The most possible measurement of risk is the variance or standard deviation of the probability distribution of possible returns.

= [(X-X) p(X i )]
i=1 i
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INVESTMENT
Investment is an activity that is engaged in by people who have savings, or in other words investments are made from savings. It may mean many things to many person. If one person has advanced some money to another- He expects money along with interest. Another person may have purchased one kilogram of gold for the purpose of price appreciation.

One may purchase insurance plan for various benefit it promises in future.
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Definition
Investment may be defined as

a commitment of funds made in the expectation of some positive rate of rate of return.

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CHARECTERISTICS OF INVESTMENT
Return Investments are made with the primary objective of deriving a return. Risk The risk may related to loss of capital, delay in repayment of capital, non payment of interest, or variability of returns. Safety The safety of an investment implies the certainty of return of capital without loss of money or time.
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Liquidity An investment which is easily saleable or marketable with out loss of money and time is said to possess liquidity. Some investments like company deposits, bank deposits, P.O deposits, NSC, NSS etc are not marketable.

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Equity shares of companies listed on stock exchanges are easily marketable through the stock exchanges.
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OBJECTIVES OF INVESTMENT
1. Maximization of return

2. Minimization of risk
3. Hedge against inflation Our savings kept as cash not only barren because they do not anything, and also losses its value to the extent of rice in prices. Savings are invested to provide a hedge or protection against inflation.
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TYPES OF INVESTORS
Investors may be individuals and institutions.

Individual investors
Individual investors are larger in number but their investable resources are comparatively smaller. They generally lack the skill to carry out extensive evaluation and analysis before investing.

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Institutional investors Institutional investors, on the other hand are the organizations with surplus funds who engage in investment activities. Mutual funds, investment companies, banking and non banking companies, insurance corporations,etc are organisations with large amounts of surplus funds to be invested in various profitable avenues.
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INVESTMENT AVENUES
The investor has to choose proper avenues from among them depending on his preference , need and ability to assume risk. The investment avenues can be broadly categorized under the following under following heads.

1.
2. 3. 4.
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Corporate securities
Deposits in banks and non-banking companies UTI and other mutual fund schemes Post office deposits and certificate Life insurance policies

5.

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6. Provident fund schemes

7.Government and semi government securities

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