Investment avenues

1. Case Study
On
Investment Avenues In The Present
Financial Year
By

2. Investment Avenues In The Present
Financial Year
Executive Summary
India created millionaires at the fastest pace in the world in 2007 according to an annual
Merrill Lynch Capgemini report. The combined investment of the Indian millionaires reaches
as high as $600 billion. Thus as our society becomes increasingly affluent, a growing number
of high net-worth individuals and families are looking for ways to optimize investment
management. Given the complexity that goes along with investment and the sheer number of
financial options to consider, adopting a casual approach to managing their finances and
investments can lead to distortion in their investment and can severely affect their financial
health. Not only that, it can come in the way of achieving their financial goals in life. Thus a
need for an investment manager is rising exponentially in recent times, which can facilitate all
of their investing, borrowing, and trust needs while helping them accumulate, preserve, and
transfer investment.
Large banks and brokerage houses create separate sales forces, provide premium services and
other 'benefits' to retain or attract HNIs (High Net worth Individuals). The primary reason for
the preferred banking and premium services is the higher profitability and economies of scale.
These investment management outfits manage the investment of these HNIs and their social

3. group’s investment across various asset classes ranging from equities, debt, private equity, real
estate investments, art, mutual fund, structured products and commodities.
Each asset class has a unique risk/return profile associated with it; the notion of risk of return
goes hand in hand. Even at a certain given point of time, a particular investment might
experience a growth in its value while another investment might face a decline or downfall.
Thus, no single asset tends to outperform others consistently, therefore it is critical to diversify
and adapt the portfolio to the dynamic investment climate. Therefore planning for investment
requires understanding of the asset allocation process. The present report elicit an in-depth
coverage of major investments avenues and their performance over the past couple of years in
a bid to arrive at optimum asset allocation for the investor keeping in mind risk appetite,
investment goals and duration marching of the cash flows of the asset.
Table Of Contents

4. Introduction
"The Poor Make Money by Working for it; While the Rich Make Money by having
their assets works for Them"
The above is a simple message by Robert T Kiyosaki from his book "Rich Day Poor Dad", to
motivate Kids (new to investment) start investing, so that your assets work for U.
Many individuals find investments to be fascinating because they can participate in the
decision making process and see the results of their choices. Not all investments will be
profitable, as investor wills not always make the correct investment decisions over the period
of years; however, you should earn a positive return on a diversified portfolio. In
addition, there is a thrill from the major success, along with the agony associated with the
stock that dramatically rose after you sold or did not buy. Both the big fish you catch and the
fish that get away can make wonderful stories.
“An investment is a voyage with a purpose” which succeeds only if it has been planned in
advance .In other words it is a process that never succeeds if it has not been calculated and

5. planned in advance. But, nowadays, as market conditions change and new financial products
appear and disappear, making decisions about investments and portfolios is no easy task.
Individuals are bombarded with a dizzying array of investment options. Information abounds,
advice comes from all quarters, recommendations often contradict one another, and new
products and asset classes are invented at breakneck speed.
Given the complexity that goes along with investment and the sheer number of financial
options to consider, investors today face bewildering choice about - what they should do with
their money? How should investors make sense of the chaos of information and innuendo that
exists about investment management? How should they create a portfolio of investments that
will meet their needs and help them achieve their goals? While these questions may seem
daunting, they are necessary. Investing is not a game but a serious subject that can have a
major impact on investor's future well being.
Virtually everyone makes investments. Even if the individual does not select specific assets
such as stock, investments are still made through participation in pension plan, and employee
saving program me or through purchase of life insurance or a home. Each of this investment
has common characteristics such as potential return and the risk you must bear. The future is
uncertain, and you must determine how much risk you are willing to bear since higher
return is associated with accepting more risk. In 1986, Microsoft Corporation first offered its
stock to the public. Nine years later, the stock's value had increased over 5,000 percent- a $
10,000 investment was worth over $ 5,00,and 000 in the same year, worlds of wonder also
offered its stocks to the public. Nine years later the company was defunct- a $ 10,000 was
worth nothing. These are two examples of emerging firms that could do exceedingly well or
fail. Would invest in large, well establish firms generate more consistent returns?
Over the years some investments have generated extraordinary gains, while others have
produced only mediocre returns, and still others have resulted in substantial losses. The
individual should start by specifying investment goals. Once these goals are established, the
individual should be aware of the mechanics of investing and the environment in which I
investment decisions are made. These include the process by which securities are issued and

6. subsequently bought and sold, the regulations and tax laws that have been enacted by
various levels of government, and the sources of information concerning investment that are
available to the individual. An understanding if this financial background leads to three
important general financial concepts that apply to investing.
Various assets classes and products classifications
Source: Author

7. Today the field of investment is even more dynamic than it was only a decade ago. World
event rapidly-events that alter the values of specific assets the individual has so many assets to
choose from, and the amount of information available to the investors is staggering and
continually growing. Furthermore, inflation has served to increased awareness of the
importance of financial planning and wise investing. In this project I will first talk about
economy, inflation, equity markets and debt markets to understand investments behavior. The
Scope of the project is restricted to the case study on Investment Avenues In The Present
Financial Year at Welingkar Institute of Management Development and Research,Mumbai.
And the report also includes a various types of risk and asset allocation strategies. Let’s
understand these investment avenues one by one.
Objective of the study
Limitations of the study

8. Methodology used
Expert opinions are collected from the investment advising and financial planning community
during the stint of the project
Also opinion of clients and prospects are collected by way of filling up of a questionnaire to
analyze their risk profile and their style of investment.
Extensive study of research reports and journals published by top notch investment advisory
firms , and then their analysis and interpretation.
Reading of various research reports, latest news and articles related to topic on
websites,magazines, references, etc.

9. Inflation
Inflation is a situation where there is ' too much money chasing too few goods'. In such times
buyers bid up prices of scarce products/services The scarcity could be caused by supply
issues or a faster than expected rise in demand. Irrespective of what causes inflation, the
impact is the same. The value of the currency you are holding declines.
Let's explain this with the help of an example. Suppose the Indian Rupee was freely
exchangeable with only one commodity- crude oil. Let's assume the conversion rate is Re 1=
1 barrel of crude (wish it were true!). Now there is tension in the Gulf region resulting in
reduced supply. Due to the subsequent rise in price of crude oil in international markets, we
would now have to pay more Rupees for every barrel of oil. Suppose crude prices rise by
10%. The new exchange rate will be Rs. 1.1 = 1 barrel of declined from 1 barrel of crude per
Rupee to only 0.91 barrel of crude per Rupee this is the erosion in the value of the currency
that we are talking about. Also note that while the Indian Rupee may be appreciating vis-à-vis
other currencies, in the ' real sense' there is erosion in value.
Another important fallout one can expect due to rising inflation is higher interest rates. The
central banks aim to reduce demand in the economy by rising the cost of money.

10. When making fresh investments or evaluating your existing holdings in potentially
inflationary times you need to keep two things in mind:
1. The possibility of higher interest rates
2. The erosion in the value of the currency
Classification of investors as per their risk profile:
Risk tolerance is a vital consideration in determining an appropriate investment mix for the
client. Based on the responses to the questions asked in the risk profiling questionnaire, a
client falls in one of the risk categories given below:
Risk Category Description
Secure As a secure investor, the best
investment for him/her would be low
risk instruments such as cash and fixed
income securities. This approach offers
a high degree of stability, liquidity and
is aimed towards capital preservation.
Conservative As a conservative investor, the best
investment for him/her would be
primarily low risk instruments such as
cash and fixed income securities with
small exposure to equity instruments.

11. This approach aims to protect clients‘
capital and at the same time generate
better returns than a secure portfolio.
Moderate As a moderate investor, the best
investment for him/her would be a
judicious combination of cash, fixed
income securities and equities. This
approach aims to balance between
capital preservation and growth but is
likely to involve at least some short
term volatility.
Growth As a growth investor, the best
investment for him/her would be
primarily in equity instruments. This
approach concentrates on achieving a
good overall return on investment
while avoiding the most speculative
areas of the capital market. Significant
short term fluctuation in value can be
expected but with high potential for
upside in the long run.
Aggressive As an aggressive investor, the best
investments for clients falling in this
category will be in equities and will
include exposure to more speculative
areas of the markets. The aim is to
maximize the appreciation of assets in
the long term while accepting the
possibility of large short term
fluctuation in value. Due to the
exposure to higher risk instruments the
possibility of a return greater than what

12. is expected from a growth portfolio is a
characteristic of this portfolio.
Strategy for Robust Investment and Financial Planning
Start early
Investing is easy once you know how. That’s why starting early gives you an extra edge, to
learn from mistakes and experiment with various investment techniques and asset classes. As
you grow older, you can take limited risks with equities and would prefer to invest in debt too.
Also, every year that you postpone investing towards retirement, the annual savings you need
to make to reach your financial goal will keep on rising. For instance, to get Rs 10 lakh at the
end of 20 years, if you start now you will need to invest Rs 13,879 annually but if you start 10
years later, the annual investment will shoot up to Rs 56,984.
Know yourself
Invest in shares or mutual funds based on your needs and after doing proper homework. Don't
buy something because your neighbor believes he has a winner on hand, or your broker is
issuing a big buy report on a stock.
Carefully choose securities that fit your profile. It is important to relate the risk perceived in a
given security not only to returns, but also to your attitude towards risk. It is important to
understand your emotions towards money and comfort levels with risk. For instance, what
would be your reaction if your stock investments plummet by 35 per cent in a month? ow
would that affect your medium term or long term plans?
The risk/return trade-off
There is no harm in assuming a big risk in the quest for higher long term returns, and your
profile does not preclude taking of such risks. Equities promise higher long term returns but
the period taken to realize these returns too can be uncertain. As far as debt mutual funds are
concerned, they are more stable tenure but returns are much lower. As an investor, you should
be able to judge whether the perceived risk is worth taking in order to get the expected return
and whether a higher return is possible for the same level of risk (or a lower risk is possible for

13. the same level of return). Smart investing will involve choices, compromises and trade-offs.
And you have to decide the combination of factors that suit you best.
Don't overpay for growth
Seek out shares that are capable of delivering sustainable earnings growth but don’t fall into
the trap of overpaying for growth. Even the best growth stock may not deliver dream returns
if your purchase price was too high to begin with. Warren Buffet, one of the most successful
investors in the world, said back in 1983: "For the investor, a too high purchase price for the
stock of an excellent company can undo the effects of a subsequent decade of favourable
business developments." So growth riding on the back of a reasonable purchase price may be a
good motto to stick with.
The reinvestment risk
If it suits your plan, choose a fund that reinvests your dividends or interest. That won't leave
you exposed to the risk of reinvesting the amount at equivalent or higher returns for the same
level of risk. Such alternatives are more than often not easily available. The reinvestment risk
is implicitly defined for a debt instrument. Yield-to-maturity, which is the actual yield on a
bond if held to maturity, may be a familiar term to those who invest in fixed income. But few
know that this YTM assumes that each interest cheque received by the investor is reinvested at
the coupon rate. In reality, however, most investors are probably spending this interest on full
filing current needs. So even if investors are getting a coupon of 18 per cent on a semi-annual
debt instrument, their YTM is much lower.
Evaluate your future
A lot of investing is about how you see your future, financially speaking. We all make certain
assumptions while estimating our future needs, and how we intend to meet those needs. But
circumstances can change. Hence it is important that you review your portfolio at least once a
year. Also try to evaluate the performance of your investments against the level of risk you are
assuming for achieving the returns you want. And when necessary re-balance your portfolio to
stay on track with your long term financial goals.
Beware of the law of averages

14. The average, or mean, acts like a powerful magnet that pulls stock prices down sharply, often
causing returns to deteriorate after they exceed historical norms by substantial margins. Stocks
display runaway tendencies by appreciating sharply. Subsequently, prices may plateau causing
disappointment. In such a situation, investors may profit from selling out earlier than originally
planned. And if the fundamental story is still intact, you could even buy back your shares at a
lower price. So stay tuned to any short-term movements in the stock market that affect your
stocks. However, if your goals are long term, don't get into the trading mode, where you
compromise on the big picture for short-term gains. It is important that you still think long
term. As Benjamin Graham, author of the investment classic The Intelligent Investor wrote:
"In the short term, the stock market is a voting machine-reflecting a voter registration test that
requires only money, not intelligence or emotional stability-but in the long run the market is a
weighing machine.
A trend may not be your best friend
The psychology of the stock market is not only based on how investors judge future events,
but also on how they react to the immediate past. There is a tendency among common
investors to buy shares of those companies or sectors that have performed well very recently. It
is critical that you assess where you are in the cycle during any bull run. That's because what
may seem to be an everlasting phenomenon eventually turns out to be illusory. It will be
replaced by another, equally compelling one. And as an investor, you are left with shares
bought at the peak of a cycle. Like Burton Malkiel, the author of A Random Walk Down Wall
Street has to say: "It is not hard, really, to make money in the market… What is hard to avoid
is the alluring temptation to throw your money away on short, get-rich-quick speculative
binges."
Time marches on
Time can dramatically enhance the value of your starting capital through the magic of
compounding. At 10 per cent annually, the annual incremental capital accumulation on a Rs
10,000 investment is Rs 1,000 in the first year, is over Rs 2,300 by the 10th year, and just
under Rs 10,000 by the 25th year. After 25 years, the total value of the initial Rs 10,000 is Rs
108,000, a ten-fold increase in value. Give your investment all the benefit of time that you can
afford. Choosing an investment plan that automatically reinvests your dividends and interest is
also a way to benefit from the power of compounding.

15. Age plays a key role in determining your investment profile. Hence, constructing a portfolio
that suits your age is essential. By mapping your age and your background, you can establish a
portfolio that comprises of different asset classes, in differing proportion. For example, if you
are five years away from retirement, with no major savings for a post-retirement life, then you
would build a portfolio comprising fixed income instruments. Similarly, a 24-year old would
focus on parking investments in riskier investments like equities, since time is on his side. We
have constructed profiles based on your age and some assumptions. Then we have constructed
a break-up of investments that can be used as a guide. You may wish to fine-tune this to meet
your own requirements. While reading through these profiles, please note that these are typical
attributes and are not absolute. Again, your risk profile changes depending on how you
perceive yourself too. A senior citizen with no dependents, but with lots of savings, may find it
perfectly okay to take on more risk. Similarly, a young person but with many dependents and
lots of financial liabilities may be more conservative than other people his age. We have
assumed that tax liabilities have been provided for, and the suggested investment break-up is
for the net funds available. Broadly, you can classify investments in to cash and bullion, fixed
income instruments, equities and mutual funds. Cash and bullion are taken as one, as both are
equally liquid and widely used as a means of savings. Savings would also include funds in
your bank savings accounts Apart from pure equities and fixed income instruments, mutual
funds are popular investment vehicles. We have classified mutual funds separately since the
risk of investing in funds is relatively lower. Moreover, balanced funds juggle between debt
and equity making an all-inclusive classification difficult.
Age : 22-30 years
Profile : You are single or are married but with no kids. Dependents are not an issue at this
stage and your focus is on creating a sizable corpus of investments for the future. Incomes
typically grow at a fast rate annually. The ability to take risk is high and losses in the short
term are acceptable. You can invest in equities with a time frame of about 5-6 years which
protects you from short-term fluctuations.
Category %
Cash and bullion 10
Fixed income instruments 30
Equity shares 40
Mutual funds-equity growth 20

16. Age : 31-45 years
Profile : You are now married and your family size has expanded, with two kids. Your parents
are now dependent on you for emotional and some financial support. The focus is on
consolidating your investments, making them more secure. The ability to take risk is there but
to a limited extent. Limiting losses is a priority. Building on a corpus of funds for children’s
education becomes a priority now.
Category %
Cash and bullion 10
Fixed income instruments 40
Equity shares 30
Mutual funds-equity growth 20
Age : 45-60 years
Profile : This is the age when retirement blues set in. Children's college and higher education
make demands on your funds. You must also ensure that your retirement plans are in place, if
you have not done it already. Hence, risk taking ability as a whole diminishes considerably.
Category %
Cash and bullion 10
Fixed income instruments 50
Equity shares 20
Mutual funds-equity growth 20
Age : Beyond 60
Profile :
You are taking life easy, some introspection, spending time with the family and maybe doing
some part time work. Or like some workhorses, you are still engaged as a full time consultant
with your ex-employer. The ability to take shocks is extremely limited and you should lower
your exposure to equities. Your prime criterion should be to have a higher proportion of fixed
income investments and stay liquid to meet any medical emergencies.

17. Category %
Cash and bullion 10
Fixed income instruments 70
Equity shares 10
Mutual funds-equity growth 10
Cash for canvas: The new guidelines for investment in art
Equity
Parking our money in the shares or stocks of companies implies an equity investment. This can
be done either by directly investing into the stock market or by way of an equity-based mutual
fund. Since these shares are traded on stock exchange, the market indices and movements
dictate the daily prices of these scripts. Since the capital markets are highly volatile, investing
in shares brings about a tremendous degree of risk. Equity as an asset class is considered to be
the most “high risk-high-return” investment and in order to enjoy superior returns; one must
keep them invested over a long time horizon. When we buy shares of a company, we become
an owner in that company and are given certain rights. Moreover, when the company achieves
growth and witnesses a spurt in its share price over a period of time, we benefit in the form of
capital appreciation. Also, fundamentally strong companies can tide over a changing inflation
and interest rate scenario and emerge strong over the long run. Equity as an asset class, surpass
all other investments when it comes to returns. However, in order to make the most of this
investment option, it is important to stay invested for good amount of time. During the short
term, sentiments take the better of a company‘s fundamentals and even good companies ‗bear‘
the brunt. For instance, the ongoing stock market crisis has ensured that even sound companies

18. have lost more than 50% of their value. However, by being invested in such stocks definitely
pays off over the long term, that is, at least 5-7 years. Also, we will notice that by staying
invested in a stock for the long term, it does not really matter at what prices we bought it at.
This is because a good company will continue to grow over time, make good profits and
reward its investors with good return. This way the original buying prices become insignificant
as we would have grown our investment multi-fold in the long run. The fact that we can make
returns as much as 20% or even more per annum if we stay invested for a good 10 years or
more, can be reaffirmed when we look at the returns given by the benchmark index – the
SENSEX – over different time periods
SENSEX returns over various time horizons

19. Source: BSE India and author’s calculations
The table below depicts the chances of making a loss depending upon the period for which we
stay invested in equities. Thus we can see that, if we had invested in the Sensex for a year
during the period 1979 to 2008, then in 10 out of 29 years, we would have faced a loss.
However, if the investment term was longer, that is, 10 years or more, than the probability of a
loss is zero.
Average returns of Sen sex with probability of loss
Particulars 1 YR 3 YR 5 YR 7 YR 10 YR 15 YR 20 YR
Probability of loss 0.38 0.22 0.12 0.13 0.05 0.00 0.00
Average Return (%) 25.21 19.46 18.76 19.14 17.12 16.78 16.84
Source: BSE India and author’s calculations

20. Debt
Just as people need money, so do companies and governments. A company needs funds to
expand into new markets, while governments need money for everything from infrastructure to
social programs. The problem large organizations run into is that they typically need far more
money than the average bank can provide. The solution is to raise money by issuing bonds (or
other debt instruments) to a public market. Thousands of investors then each lend a portion of
the capital needed. A bond is nothing more than a loan for which you are the lender. The
organization that sells a bond is known as the issuer. You can think of a bond as an IOU given
by a borrower (the issuer) to a lender (the investor).
For example, say an investor buys a bond with a face value of Rs 1,000, a coupon of 8%, and a
maturity of 10 years. This means the investor receives a total of Rs 80 (Rs 1,000 * 8%) of
interest per year for the next 10 years. Actually, because most bonds pay interest semi-
annually, the investor receives two payments of Rs 40 a year for 10 years. When the bond
matures after a decade, the investor gets your Rs 1,000 back.
The different types of bonds include government securities, corporate bonds, commercial
paper, treasury bills, strips etc. These bonds are either fixed interest bonds or floating rate
bonds. In fixed interest bonds, the interest component remains the same throughout the tenure
of the security. Say a 10-year bond issed today bears 8% interest. Even if 5 years hence, the
interest rate in the economy goes down to 5%, this 8% bond will continue to earn the investor
8% interest. In a floating rate bond, the interest rate varies depending on the interst rate of a
security that the bond chooses to benchmark it's interest rate to.
The process of debt instruments alongside other asset classes like equity is important in order
to keep a fair balance between risks and returns. Debt investments also score over on two main
parameters of assured returns and liquidity. In spite of many investors favoring the equity
segment due to its high return potential, the stability and minimal risk that the debt component
in a portfolio provides cannot be sidelined. The key debt instruments in India are company
bonds, fixed deposits, debt mutual funds and government schemes. They are popular due to the
following reasons:
Low risk tolerance Since most of these securities are either government backed or by a bank

21. etc, there is a minimal or at times, a zero default risk attached to it. The safety that these
instruments provide offers the most attraction towards these investments since they assist in
mitigating the risk element in the overall portfolio. So they are ideally suited for investors with
a low risk appetite. Besides, fixed income instruments offer a stable and a fixed rate of return.
Need for returns in the short–term Since one can avail fixed income instruments for a
shorter duration as well, it satisfies your liquidity requirements to a great extent. For investors
who do not have a long term horizon in mind as regards investing their investment, this is the
most ideally suited investment option. The liquidity that these securities carry can be
particularly useful for a person in the higher age category such as 40-50 years and for people in
their retirement years as in this age liquidity and investment preservation are important factors
to consider.
Predictable versus Uncertain Returns As the name suggests, these ‗fixed income‘
instruments provide a fixed amount of return at the maturity of the investment. During the term
of security, price fluctuations in the security price are likely. However, if the security is held
till its entire tenor, the interest earned/return gained on the investment is fixed and this
effective yield from the instrument is known to the investor during the purchase itself. Hence,
there is a certain fixed income that is gained on such securities.

22. Source: RBI and NSE India
As so many options are available for the investors to invest in debt, one must be careful while
investing. The various parameters to be considered before investing are:
¬ Risk i.e. the credit risk attached with the instrument,
¬ Returns which can be made over a period of time after taxes, and
¬ Liquidity: as debt instruments are not very liquid, particularly long term investments.
Mutual Funds
A mutual fund is a professionally managed type of collective investment scheme that pools
money from many investors and pools it in stocks, bonds, short term money market
instruments and other securities. Mutual funds have a fund manager who invests the money on
behalf of the investors by buying/selling stocks, bonds, etc. India has around 1,000 mutual
fund schemes but this number has grown exponentially in the last few years. The total Assets
under Management (AUM) in India of all Mutual funds put together touched a peak of Rs. 5,
44,535 cores at the end of August 2008.
There are many reasons why investors prefer mutual funds. Buying shares from the market is
one way of investing. But this requires spending time to find out the performance of the

23. company whose share is being purchased, understanding the future business prospects of the
company, etc. However many investors find it cumbersome and time consuming to pour over
so much of information before investing their money. Investors therefore prefer the mutual
fund route. They invest in a mutual fund scheme which in turn takes the responsibility of
investing in stocks after conducting due analysis and research. The investor need not bother
with researching hundreds of stocks. He leaves it to the mutual fund and its professional fund
management team.
Another reason why investors prefer mutual funds is because mutual funds offer
diversification. An investors‘ money is invested by the mutual fund in a variety of shares,
bonds and other securities thus diversifying the investor‘s portfolio across different companies
and sectors. Mutual funds can be broadly divided into three categories:
Various classifications of Mutual Funds
Source: AMFI

24. Equity Funds – These are by far the most widely known category of funds and they account for
broadly 40% of the industry‘s assets. Equity funds essentially invest the investor‘s money in
equity shares of companies. Fund managers try and indentify companies with good future
prospects and invest in the shares of such companies. These funds are generally considered to
have the highest risk, and hence, they also offer the probability of maximum returns.
Debt Funds – These funds invest money in debt instruments such as short and long term
bonds, Government securities, t-bills, corporate paper, commercial paper, call money, etc. The
main objective of debt fund is to preserve the capital and generate income from the client. Debt
schemes are considered to be safer and less volatile and have thus managed to attract investors.
Debt markets in India are wholesale in nature and hence retail investors generally find it
difficult to directly participate in the debt markets. Not many investors understand the
relationship between interest rates and bond prices or the difference between coupon and yield
but they can however participate in the debt markets through debt mutual funds.
Liquid Funds – These funds are by far the biggest contributors to the mutual fund industry,
liquid funds attract a lot of institutional and HNI money. They account for approximately 40%
of industry AUM. Less risky and better returns than a bank current account are the two
advantages of Liquid Funds. Money market instruments have maturities not exceeding 1 year.
Hence Liquid Funds (also known as money market mutual funds) have portfolios having
average maturities of less than or equal to 1 year. Thus such schemes normally do not carry
any interest rate risk.
Insurance
Insurance is designed to offer financial protection for you and your family during the times of
uncertainties. One can choose from a range of traditional insurance, unit linked and general
insurance plans designed to help you with your savings, retirement, investment, protection
needs and also save taxes.

25. Income Tax
Section
Gross Annual Salary How Much Tax Can You Save? Most Suited Life Insurance Plan
Sec. 80C Across All income Slabs. Upto Rs. 33,990 saved on investment of Rs. 1,00,000 All the life insurance plans
Sec. 80CCC Across All income Slabs Upto Rs. 33,990 saved on investment of Rs. 1,00,000 All the pension plans
Sec. 80D* Across All income Slabs
Upto Rs. 10,197 saved on Investment of Rs. 30,000.
(Inclusive of Rs. 15,000 towards health insurance of
parents).
All the health insurance plans/health riders
available with the conventional plans
Total Savings
Possible**
44187
Rs. 33,990 under Sec. 80C and under Sec. 80 CCC, Rs. 10,197 under Sec. 80D, calculated for a male with gross annual income
exceeding Rs. 10,00,000
Sec. 10 (10)D Under Sec. 10(10D), the benefits you received are completely tax-free, subject to the conditions laid down therein
* Applicable to premiums paid for Critical illness Benefit, Accelerated Sum Assured and
Waiver of Premium Benefit.
** These calculations are illustrative and based on our understanding of current tax
legislations, which are subject to change. Please contact your tax consultant for exact
calculations of your tax liabilities.
Insurance, in law and economics, is a form of risk management primarily used to hedge against
the risk of a contingent loss. Insurance is defined as the equitable transfer of the risk of a loss,
from one entity to another, in exchange for a premium. Insurer is the company that sells the
insurance. Insurance rate is a factor used to determine the amount, called the premium, to be
charged for a certain amount of insurance coverage. Risk management, the practice of
appraising and controlling risk, has evolved as a discrete field of study and practice.
There are several types of insurances in India for example, health, disability, casualty, life
insurance, property, credit insurance, etc. Insurance as an investment Insurance may not be the
best place to invest ones hard-earned money, but there are sufficient reasons for one to believe
that it can be a highly lucrative avenue to facilitate savings. People often talk about yield on

26. investment and tend to compare their values with those available on various insurance
schemes. This is particularly typical within the Indian sub-continent where one conveniently
forgets the element of risk covered by life insurance It is extremely unfair to compare the
performance of insurance against other investments without considering the core features of
insurance.
The very essence of insurance is to protect ones family from the uncertainty of his life. Hence
it proves very logical to evaluate the costs involved towards this feature. When a person pay
insurance premium for his car, does he get anything if fortunately no mishap happens? This
means that he spent the amount to secure a valuable property. Hence one must accept that out
of the total amount paid by him for his life insurance, a certain amount is used for providing
the risk cover and only the balance can be utilized as savings. In other words, the total
premium one pay minus the amount evaluated as the cost of insurance must be considered as
the amount invested to get the maturity amount. If one calculates the yield from returns, he will
be in for a surprise.
Secondly, we tend to think very unrealistically about our life. We often compare the results
after say 10 years from an investment scheme, for instance PPF. And then we try to convince
ourselves that PPF is providing a better yield than an insurance policy. For instance, if one
invest Rs.10,000/- in PPF after 1 year his money will grow to Rs.11100/- accruing a return of
11 percent. But what if his death occurs in the first year itself? The Rs.10,000/- can give him
an insurance cover up to an approximate sum of Rs.12 lakhs (depending upon the plan, age,
etc) and this amount shall become available to the nominee of the policyholder as against the
mere paltry Rs.11,100/- that PPF shall pay.
Art
The spectrum of the Art market in India is widening. It is now emerging as an investment
avenue as well. For a matter of fact, a painting of the eminent Tyeb Mehta recently earned him
whopping Rs. 6.9 cores, which is record in itself! Until now, appreciating and buying works of
art was restricted to the ‗page 3‘socialites. This might be partially true, but the profile of art
buyers is now getting more diverse. A lot of young professionals and entrepreneurs are taking
interest in art and buying it with an investment perspective.

27. Why Invest in Art? When we buy an art piece, we are investing in that artist‘s work. And since
all works of art are unique, a good piece has a lot of value attached to it. In the past couple of
years, select art creations have given much higher returns than what one could earn in the
blazing Indian stock markets. Yes, it is quite possible that excess liquidity might have found its
way to art assets, thus inflating their prices. But even otherwise, Indian Art creations, of late,
have found preference in foreign shores as well for their aesthetic quality.
Art as an asset class has low co-relation with other financial assets. So, if other financial assets
are going through a phase of correction, the art market might not necessarily be hit with the
same intensity. If we could spot talent early and are sure about taking a call on a young artist‘s
work, then the rewards can be phenomenal in the long term. Performance of an Indian Art as
an asset class over last few years In 2005, when shares gave a return of 46.7% and gold of
24.6%, art gave no less than 154.8%. But that of course has been one side of the story. These
returns reflect the work of certain top artists.
Like in the stock markets, where mid-caps can outperform large-caps, in the art market, the
work of junior artists could fetch higher returns as they may be bought for a cheaper price. If
one wants to take a safe bet while buying art, one should stick to renowned artists. It is more
certain than not that one would earn a decent short-term return. For an artist‘s work to
command exceptional prices in the market, it is important that he be consistent with good work
over a prolonged period of time. If he is unable to deliver quality on a consistent basis, then the
prices of his previous work done also stagnates. Some of the popular names are:
Artist Returns*
Tyeb Mehta 75.70%
VS Gaitonde 72.80%
FN Souza 66.60%

28. SH Raza 42%
MF Hussain 39%
*Returns are over the period from 1998-2006
Source: Financial Times
Various Methods to Invest in Art One can invest in Art either by buying a work of art or
investing through an Art fund. Buying Art works directly: Investing directly in art is pretty
expensive. One has to pay a 15-20% commission when he buys a piece of work. And when he
wants to sell, again he pays another 15-20% commission. And also the short term and long
term capital gains tax. If he sells within a 3-year period, he will have to pay 33.8% short term
capital gains. If he sells after 3 years, he would have to pay 20% long term capital gains tax.
That means he has to make 65-70% before he make his first one percent.
Investing in Art through a Fund
If one does not understand Art like the popular majority, and still wants to take an exposure in
art, then he has an option of art fund which is on the lines of a mutual fund. There are several
active art funds in India. They, however, seem to be out of reach of retail investors as most of
them require a minimum investment of Rs. 10 lakh and above. Also, a fund will charge him a
management fee of just 3% every year and an annual fee of 8%. Osian‘s is among the reputed
names among the various funds that have been launched. Among other popular names are
Crayon Capital Art Fund and Synergy Yatra Art Fund.
Foreign Remittances
Recently, Indians are taking more money outside the country, legally that is. According to
figures put out by the Reserve Bank of India, outward remittances by Indians climbed
manifold from a mere $10 million in 2004-05 to $441 million in 2007-0812. A significant
portion of outward remittance (another third) is spent on investment in equity and debt. The
balance goes towards gifts, donations, deposits and purchase of immovable property. It is the
geographical diversification of these clients that is probably accounting for the rise in real
estate as well as equity investments overseas. Of course, tourism and education are also

29. contributing their share.
In the eight months of 2008/09 fiscal, that number has once again been eclipsed and is already
at $530 million. RBI figures show that the money that is taken out is spent mainly (about a
third) on travel, tours and education. There are about 8 million outbound tourists from India
and the travel industry expects this to double to over 16 million in the next three to four years.
About 1.3 lakh students go abroad for higher studies.
The liberalization process was speed ed up during 2006-2007 as inflows of forex began
peaking. It was felt that there was sufficient cushion to allow a higher amount to be taken out
(to balance the unstoppable inflows of that period) — either for expenses or investment.
Therefore the Government has been steadily liberalizing the amount that can be taken out
under its Liberalized Remittance Scheme (LRS). Starting with about $25,000 that an Indian
could remit outside in a year, the amount has been gradually increased to about $2 lakh a year.
Why Remittances?
Long term investment Creation
● Creating investment outside India in one of the stable economies.
● Creating investment outside India to be used by the second generation of the client e.g.
Education of kids outside India, buying real estate aboard.
Geographical Diversification
Currently most of the HNI clients have maximum exposure to Indian Economy therefore from
the asset allocation point of view; clients need to diversify to mitigate geographic risk
Geopolitical Risk
Recent events in India have increased the geopolitical risk in India which might have negative
implication the Indian currency.
Opportunistic
LRS gives a tremendous platform to the HNI clients to get exposure to opportunistic trades in

30. the global markets
Product Choices
• Under LRS clients can invest in wide range of products like warrants, structures, on
crude, gold, commodity long short, etc. across the globe.
• Under LRS clients have option to put money in various currency deposits.
Structured Products
While there is no common single definition, broadly any financial instrument which
implements a pre-defined strategy with a pre-defined objective on a single/multiple underlying
securities/asset classes can be called a structured product. It is generally a pre-packaged
investment strategy which is based on derivatives, such as a single security, a basket of
securities, options, indices, commodities, debt issuances and/or foreign currencies, and to a
lesser extent, swaps. The variety of products just described is demonstrative of the fact that
there is no single, uniform definition of the structured product.
A feature of some structured products is a ―principal guarantee function which offers‖
protection of principal if held to maturity. For example, an investor invests Rs. 100; the issuer
simply invests in a risk free bond which has sufficient interest to grow to 100 after the 5 year
period. The bond might cost Rs. 80 today and after 5 years it will grow to Rs. 100. With the
leftover funds the issuer purchases the options and swaps needed to perform whatever the
investment strategy is. Theoretically an investor can just do these themselves, but the cost and
transaction volume requirements of many options and swaps are beyond many investors.
As such, structured products were created to meet specific needs that cannot be met from the
standardized financial instruments available in the markets. Structured products can be used as
an alternative to a direct investment, as part of the asset allocation process to reduce risk
exposure of a portfolio, or to utilize the current market trend. Structured products are usually
issued by investment banks or affiliates thereof. They have a fixed maturity, and have two
components: a note and a derivative. The derivative component is often an option.
The note provides for periodic interest payments to the investor at a predetermined rate, and

31. the derivative component provides for the payment at maturity. Some products use the
derivative component as a put option written by the investor that gives the buyer of the put
option the right to sell to the investor the security or securities at a predetermined price.
Other products use the derivative component to provide for a call option written by the
investor that gives the buyer of the cal option the right to buy the security or securities from the
investor at a predetermined price.
Risks associated with structured products
The risks associated with many structured products, especially those products that present risks
of loss of principal due to market movements, are similar to those risks involved with the
options and the potential for serious risks involved with options trading are well-established.
Even in the case of a ―principal protected product, they are only insured by the issuer, and‖
thus they have the potential for loss of principal in the case of a liquidity crisis, or other
solvency problems with the issuing company. The benefits of structured products can include:
¬ Principal protection
¬ Tax-efficient access to fully taxable investments
¬ Enhanced returns within an investment
¬ Reduced volatility (or risk) within an investment
Structured products are by nature not homogeneous – as large number of derivatives and
underlying can be used – but can however be classified under the following categories:
¬ Interest rate-linked Notes & Deposits
¬ Equity-linked Notes & Deposits

32. ¬ FX and commodity-linked Notes & Deposits
¬ Hybrid-linked Notes & Deposits
¬ Credit Linked Notes & Deposits
¬ Market Linked Notes & Deposits
Combinations of derivatives and financial instruments create structures that have significant
risk/return and/or cost savings profiles that may not be otherwise achievable in the
marketplace. Structured products are designed to provide investors with highly targeted
investments tied to their specific risk profiles, return requirements and market expectations.
Commodities
Commodity investment has become increasingly popular over the past few years, as the
associated benefits have become more widely known. We know that global volumes on
commodity exchanges are several times the volume on equity exchanges. As global growth has
continued unabated, led by the new economic powerhouse of China, commodities have been
consumed at an unprecedented rate. With the rise in demand and problems of tight supply,
prices have risen across most of the commodity spectrum.
Commodity investors, both passive and active, have enjoyed an above-trend performance.
However, unlike in previous bull markets, commodities are no longer just the preserve of
institutional portfolios, and there are now many products available for the retail investor.
Moreover, with strong returns, significant news flow and several available investment vehicles,
investment money has poured into commodity markets. Diversification Commodities offer
many different characteristics to other asset classes and are, therefore, an excellent portfolio

33. diversifier, no matter how large or small a portfolio.
Correlation of commodities with equities and bonds over the past decade has been very little.
The reason for this is fundamental. Unlike bonds, commodities are real assets and tend to hold
their value in the face of inflation. Similarly, they are physically scarce and, as such,
experience positive price shocks at times when other asset classes, such as equities, sell off.
The war premium applied to the oil price is a pertinent example of how commodities can
actually be an effective portfolio hedge in uncertain times. Therefore, their inclusion in a
balanced portfolio can help generate strong absolute returns with less risk.
Many investors, however, have been surprised that recent returns from their commodity
investments have not matched the rises in underlying prices. Since the early 90s, the primary
avenue available for investing in commodities has been traditional indices. These indices
performed well for a period, but over the past few years it has become increasingly clear that
their performance has been different to that of the commodity spot (cash) price.
Why invest in commodities?
Price Discovery:
Exchange based trading act as a vehicle for "price discovery”, with the price level accurately
reflecting the underlying conditions in the market.
Price Transparency:
All the participants' in the market can have equal access toa neutral and authoritative price
level.
Risk Transfer:
By locking in the price for future delivery, they can "hedge" against unfavorable price

34. movements that may occur before the delivery date.
Portfolio Diversification:
Commodities provides a good avenue for investors to diverse their portfolio from equity and
bonds
Inflation Hedge:
Commodities like gold are natural protection against inflation. Furthermore, the commodities
have actual physical worth not the notional like equities.
Commodities are very powerful tool for asset allocation and portfolio diversification. The
bullish trend in commodities last very long and secular in nature since it takes a long time
before supply and demand adjusted itself to market condition. Commodities offer a wonderful
opportunity to diversify ones portfolio, while benefiting from the long-term scarcity, and
therefore performance, of the asset class. Commodities, however, are not, and never will be, as
efficiently traded as other asset classes.
The peculiarities of supply and demand and the presence of non-price sensitive players imply
that there will always be persistent alpha opportunities. The passive investor will not only miss
out on these opportunities, but quite often supplies the opportunity to the active investor by
blindly following an index and distorting the market. The vast majority of participants in
commodities are these passive investors or hedgers.
These non-price sensitive participants have inadvertently created opportunities for active
investors and, as such, this asset class is ripe with opportunities to outperform the passive
participants. Commodities should always be considered as part of a balanced portfolio, but
given the complexities and opportunities, selecting the right vehicle is very important in
determining the end benefit. Therefore, looking beyond the traditional indices is often
worthwhile.
Among commodities the GOLD is considered to be a best hedge against the inflation risk in
general. In India, people relay on Gold holdings has a hedge against the unforeseen
circumstances as it has a real physical value. Gold is the only asset class which offers dual

35. benefits; it is tangible as well as liquid, unlike real estate which is tangible but not liquid, or
company shares which are liquid but not tangible. An old adage preaches, ―Gold shines when
everything else falls apart. Gold is considered as a ‗must-have in the investor‘s portfolio and
experts recommend an exposure of anything between 5 to 15 percent of one‘s total assets in
gold.
GOLD v/s SENSEX returns over various time horizons

36. Source: COMEX, BSE India and Author calculations
The table above tells us how gold can mitigate the risk of loss. One look at the year 2008 will
tell you that during that year, while gold grew at 29.18%, the SENSEX fell by 54.75%. Now if
one had invested all his money in the sensex that year, he would have lost 54.75% of it. But if
he had invested 5% in gold and rest in equities, his total loss would have been reduced to
50.55%.
Gold in this case, will reduce the impact of loss. Higher the allocation towards gold, better the
risk mitigation. For instance, in the year 2008 itself, if instead of 5%, had he invested 25% in
gold, his total loss would have been just 33.77%. But the reverse would also hold true. In a
year when the equities are booming, gold might actually weigh down on his total returns as
happened in the year 2007. But that must not discourage an investor from putting some money
in gold. Gold is an option not as volatile as equities. While in the last 10 years, equities have
fallen as well as gained by 50%, the maximum fall and gain on gold has been just around 25%.
Investments in gold can be made either directly through the ownership of physical gold in the
form of bars, coins, jewellery etc. one can also invest indirectly by way of trading in gold. In
India, traditionally, majority of the gold has been purchased in the form of jewellery. However,
with the advent of gold trading through Exchange Traded Funds (ETFs) and buying Gold

37. Futures, investor‘s perceptions have undergone a change.
Real Estate
Looking for attractive avenues to park the funds? If the recent statistics are anything to go by,
real estate is emerging as one of the hot investment destinations. The multiple benefits of
investing in real estate today are:
1. Higher, risk-adjusted returns as compared to various asset classes over a period of time.
2. Assured, regular income
3. Capital appreciation
4. Inflation hedge
5. Portfolio Diversification
According to the report from Knight Frank India research ‗India Property Investment Review
Quarter 4 2005‘; on an average, the return from rental income on an investment in commercial
property in the metros is around 10.5%, the highest in the world. Compare this with other
investment opportunities like bank deposits and bonds that offer returns ranging between 5.5 to
6.5%.
Rejuvenated demand since early 2004 has led to the firming up of real estate markets across
the three sectors – commercial, residential and retail. The supply just about matches the
demand in almost all metros around the county. There has been an upward pressure on the
Real estate values. From a technical perspective, robust demand and upward prices are helping
revive investment and speculative interest in real estate and this is being further aided by
excess money supply, stock market gains and policy changes in favour of the real estate sector.
In recent years, increasing demand from the IT/ITES and BPO sector has led to approximately
20-40% increase in capital values for office space in the last 12-15 months across major metros
in India. The net yield from Grade-A office property have come down from 12-14% in 2003
and currently average around 10.5-11% p.a. the fall in yields has resulted from decreasing
interest rates and increasing appetite from investors. This has in turn resulted from abundant

38. liquidity options available coupled with the acceptability of Real estate as a conventional asset
class. Lower interest rates, easy availability of housing finance, escalating salaries and job
prospects have been lending buoyancy to the residential sector.
The net yields (after accounting al outgoings) on residential properties are currently at 4-6%
p.a. However, these investments have benefited from the improving residential capital values.
As such, investors can count on potential capital gains to improve their overall returns. Capital
values in the residential sector have risen by about 25-40%p.a. in the last 15-18 months.
The retail market in India has been growing due to increasing demand from retailers, higher
disposable incomes and dearth of quality space as on date. However, the risks associated with
this sector are higher as retailers are prone to cyclical changes typical of a business cycle.
Changing consumer psycho graphics combined with increasing disposable incomes will ensure
further growth of the retail sector in India.
Understanding of Risk in investment
The fact is that one cannot get rich without taking risks. Risks and rewards go hand in hand;
and, typically, higher the risk one takes, higher the returns he can expect. In fact, the first
major Zurich Axiom on risk says: "Worry is not a sickness but a sign of health. If you are not
worried, you are not risking enough". Then the minor axiom says: "Always play for

39. meaningful stakes". The secret, in other words, is to take calculated risks, not reckless risks. In
financial terms, among other things, it implies the possibility of receiving lower than expected
return, or not receiving any return at all, or even not getting your principal amount back.
Risk/return Matrix
Source: ICFAI textbook Portfolio Management
Every investment opportunity carries some risks or the other. In some investments, a certain
type of risk may be predominant, and others not so significant. A full understanding of the
various important risks is essential for taking calculated risks and making sensible investment
decisions. There are seven major risks present in varying degrees in different types of
investments
Default risk
This is the most frightening of all investment risks. The risk of non-payment refers to both the
principal and the interest. For all unsecured loans, e.g. loans based on promissory notes,

40. company deposits, etc., this risk is very high. Since there is no security attached, one can do
nothing except, of course, go to a court when there is a default in refund of capital or payment
of accrued interest. So, one must look at the CRISIL / ICRA credit ratings for the company
before he invests in company deposits or debentures.
Business risk
The market value of the investment in equity shares depends upon the performance of the
company one has invested in. If a company's business suffers and the company does not
perform well, the market value of that share can go down sharply. This invariably happens in
the case of shares of companies which hit the IPO market with issues at high premiums when
the economy is in a good condition and the stock markets are bullish. Then if these companies
could not deliver upon their promises, their share prices fall drastically. When one invests
money in commercial, industrial and business enterprises, there is always the possibility of
failure of that business; and he may then get nothing, or very little, on a pro-rata basis in case
of the firm's bankruptcy. A recent example of a banking company where investors were
exposed to business risk was of Global Trust Bank. Global Trust Bank, promoted by Ramesh
Gelli, slipped into serious problems towards the end of 2003 due to NPA-related issues.
However, the Reserve Bank of India's decision to merge it with Oriental Bank of Commerce
was timely. While this protected the interests of stakeholders such as depositors, employees,
creditors and borrowers was protected, interests of investors, especially small investors were
ignored and they lost their money. The greatest risk of buying shares in many budding
enterprises is the promoter himself, who by over stretching or swindling may ruin the business.
Purchasing power risk or inflation risk
When prices shoot up, the purchasing power of the money goes down. Some economists
consider inflation to be a disguised tax. Given the present rates of inflation, it may sound
surprising but among developing countries, India is often given good marks for effective
management of inflation. The average rate of inflation in India has been less than 8% p.a.
during the last two decades. In India's case, inflation, in terms of the wholesale prices, which
remained benign during the last few years, began firming up from June 2006 onwards and

41. topped double digits in the third week of June 2008. The skyrocketing prices of crude oil in
international markets as well as food items are now the two major concerns facing the global
economy, including India. Ironically, relatively "safe" fixed income investments, such as bank
deposits and small savings instruments, etc., are more prone to ravages of inflation risk
because rising prices erode the purchasing power of the capital. "Riskier" investments such as
equity shares are more likely to preserve the value of one‘s capital over the medium term.
Liquidity risk
Money has only a limited value if it is not readily available as and when one need it. In
financial jargon, the ready availability of money is called liquidity. An investment should not
only be safe and profitable, but also reasonably liquid. An asset or investment is said to be
liquid if it can be converted into cash quickly, and with little loss in value. Liquidity risk refers
to the possibility of the investor not being able to realize its value when required. This may
happen either because the security cannot be sold in the market or prematurely terminated, or
because the resultant loss in value may be unrealistically high. Current and savings accounts in
a bank, National Savings Certificates, actively traded equity shares and debentures, etc. are
fairly liquid investments. In the case of a bank fixed deposit, one can raise loans up to 75% to
90% of the value of the deposit; and to that extent, it is a liquid investment. Some banks offer
attractive loan schemes against security of approved investments, like selected company
shares, debentures, National Savings Certificates, Units, etc. Such options add to the liquidity
of investments.
But one should, however, be under the impression that all listed shares and debentures are
equally liquid assets. Out of the 8,000-plus listed stocks, active trading is limited to only
around 1,000 stocks. A-group shares are more liquid than B-group shares. The secondary
market for debentures is not very liquid in India. Several mutual funds are stuck with PSU
stocks and PSU bonds due to lack of liquidity
Interest rate risk
In this highly volatile market situation, interest rate fluctuation is a common phenomenon with

42. its consequent impact on investment values and yields. Interest rate risk affects fixed income
securities and refers to the risk of a change in the value of one‘s investment as a result of
movement in interest rates. Suppose a person has invested in a security yielding 8 per cent p.a.
for 3 years. If the interest rates move up to 9 per cent one year down the line, a similar security
can then be issued only at 9 per cent. Due to the lower yield, the value of his security gets
reduced.
Political risk
The government has extraordinary powers to affect the economy; it may introduce legislation
affecting some industries or companies in which one has invested, or it may introduce
legislation granting debt-relief to certain sections of society, fixing ceilings of property, etc.
One government may go and another come with a totally different set of political and
economic ideologies. In the process, the fortunes of many industries and companies undergo a
drastic change. Change in government policies is one reason for political risk. Whenever there
is a threat of war, financial markets become panicky. Nervous selling begins. Security prices
plummet. In case a war actually breaks out, it often leads to sheer pandemonium in the
financial markets. Similarly, markets become hesitant whenever elections are round the corner.
The market prefers to wait and watch, rather than gamble on poll predictions. International
political developments also have an impact on the domestic scene, what with markets
becoming globalized. This was amply demonstrated by the aftermath of 9/11 events in the
USA and in the countdown to the Iraq war early in 2003. Through increased world trade, India
is likely to become much more prone to political events in its trading partner-countries.
Market risk
Market risk is the risk of movement in security prices due to factors that affect the market as a
whole. Natural disasters can be one such factor. The most important of these factors is the
phase (bearish or bullish) the markets are going through. Stock markets and bond markets are
affected by rising and falling prices due to alternating bullish and bearish periods: Thus
¬ Bearish stock markets usually precede economic recessions.

43. ¬ Bearish bond markets result generally from high market interest rates, which, in turn,
are pushed by high rates of inflation.
¬ Bullish stock markets are witnessed during economic recovery and boom periods.
¬ Bullish bond markets result from low interest rates and low rates of inflation
How to allocate across various asset classes?
The best-performing asset varies from year to year and is not easily predictable. Table below17
shows that from year 2000-08, not even a single asset class could retain its last year‘s ranking.
This means that if investor‘s portfolio is concentrated to one particular asset class, or, if he
―jumps from one asset to the next, he may easily end up with worse results than any‖
consistent plan. Such a person can be quite successful at transferring value away from himself
rather than creating wealth. Thus here comes the role of asset allocation which refers to the
strategy of dividing investor‘s total investment portfolio among various asset classes, such as
stocks, bonds, money market securities, real estate, structured products, etc. Essentially, asset
allocation is an organized and effective method of diversification.
A fundamental justification for asset allocation is the notion that different asset classes offers
returns that aren't perfectly correlated; hence diversification reduces the overall risk in terms of
the variability of returns for a given level of expected return. For e.g. if in the year 2007-08
someone has taken exposure in only equities, then his portfolio would have been down by
approximately (–55%), but in same period if he would have invested in equities and gold
equally his portfolio would be down by just (-12%), as equities were down by 55% and gold
was up by 30% at the same time. Thus we see that lot of asset classes have negative correlation
with each other, and as no one can predict the markets accurately, so just by diversifying the
portfolio across various asset classes one can generate good returns with lesser amount of risk.
Performance of various asset classes during 2000-2008

44. Source: AMFI, Money control, BSE India, COMEX and Author calculations
The different assets have varying risks and experience different market fluctuations; proper
asset allocation insulates the entire portfolio from the ups and downs of one single class of
securities. So, while part of portfolio may contain more volatile securities - which have been
chosen for their potential of higher returns - the other part of the portfolio devoted to other
assets remains stable. Because of the protection it offers, asset allocation is the key to
maximizing returns while minimizing risk.
Factors contributing in investment decision

45. Source: Author
In the above diagram, it‘s clearly shown that security selection, market timing and some other
factors might affect the performance of the portfolio, but major contribution in the overall
performance, which is close to 91%, is the correct asset allocation. The important task of
appropriately allocating one‘s available investment funds among different assets classes can
seem daunting, with so many securities to choose from. But before selecting the asset classes
and the amount of exposure to be taken in each of them, an investor needs to know the risk-
return characteristics of the various asset classes. Figure below compares the risk and potential
return of some of the most popular ones:

46. Source: Author
Alternate assets have the highest potential return, but also the highest risk. On the other hand,
Liquid funds have the lowest risk since they are backed by the government, but they also
provide the lowest potential return.
Above figure also demonstrates that when one chooses investments with higher risk, his
expected returns also increase proportionately. But this is simply the result of the risk-return
trade-off. They will often have high volatility and are therefore suited for investors who have a
high risk tolerance, and who have a longer time horizon because of the risk-return trade-off
which says one can seek high returns only if he is willing to take losses - that diversification
through asset allocation is important. As each asset class has varying levels of return for a
certain risk, investor‘s risk tolerance, investment objectives, time horizon and available capital
will provide the basis for the asset composition of his portfolio.
Asset Allocation Strategies
Allocation of investment in various assets can be done by using different asset allocation
strategies18. Till now we‘ve seen the importance of asset allocation, but more important is the
type of strategy used. Asset allocation can be an active process in varying degrees or strictly

47. passive in nature. Whether an investor chooses a precise asset allocation strategy or a
combination of different strategies; depends on that investor's goals, age, market expectations
and risk tolerance. All the asset allocation strategies are discussed below:
Strategic asset allocation (SAA)
It refers to the neutral asset allocation that aims to achieve the investor‘s long-term investment
objectives. It is based on the longer-term risk and return outlook for the asset classes. It is a
method that establishes and adheres to what is a 'base policy mix'. This is a proportional
combination of assets based on expected rates of return for each asset class. For example, if
stocks have historically returned 10% per year and bonds have returned 5% per year, a mix of
50% stocks and 50% bonds would be expected to return 7.5% per year
Tactical asset allocation (TAA)
Over the long run, a strategic asset allocation strategy may seem relatively rigid. Therefore,
one may find it necessary to occasionally engage in short-term, tactical deviations from the
mix in order to capitalize on unusual or exceptional investment opportunities. This flexibility
adds a component of market timing to the portfolio, allowing him to participate in economic
conditions that are more favorable for one asset class than for others. Tactical asset allocation
can be described as a moderately active strategy, since the overall strategic asset mix is
returned to when desired short-term profits are achieved. This strategy demands some
discipline, as one must first be able to recognize when short-term opportunities have run their
course, and then re balance the portfolio to the long-term asset position. The deviation from the
SAA is done with the aim to enhance returns in the shorter term may differ from investor to
investor.
Dynamic Asset Allocation
Another active asset allocation strategy is dynamic asset allocation, with which you constantly
adjust the mix of assets as markets rise and fall and the economy strengthens and weakens.
With this strategy you sell assets that are declining and purchase assets that are increasing,
making dynamic asset allocation the polar opposite of a constant-weighting strategy. For
example, if the stock market is showing weakness, you sell stocks in anticipation of further

48. decreases, and if the market is strong, you purchase stocks in anticipation of continued market
gains
Constant-Weighting Asset Allocation
Strategic asset allocation generally implies a buy-and-hold strategy, even as the shift in the
values of assets cause a drift from the initially established policy mix. For this reason, you may
choose to adopt a constant-weighting approach to asset allocation. With this approach, you
continually rebalance your portfolio. For example, if one asset were declining in value, you
would purchase more of that asset, and if that asset value should increase, you would sell it.
There are no hard-and-fast rules for the timing of portfolio rebalancing under strategic or
constant-weighting asset allocation. However, a common rule of thumb is that the portfolio
should be rebalanced to its original mix when any given asset class moves more than 5% from
its original value.
Insured Asset Allocation
With an insured asset allocation strategy, you establish a base portfolio value under which the
portfolio should not be allowed to drop. As long as the portfolio achieves a return above its
base, you exercise active management to try to increase the portfolio value as much as
possible. If, however, the portfolio should ever drop to the base value, you invest in risk-free
assets so that the base value becomes fixed. At such time, you would consult with your advisor
on re-allocating assets, perhaps even changing your investment strategy entirely. You can
implement an insured asset allocation strategy with a formula approach or a portfolio insurance
approach.
The formula approach is a graduated strategy: as the portfolio value decreases, you purchase
more and more risk-free assets so that when the portfolio reaches its base level, you are
entirely invested in risk-free assets. With the portfolio insurance approach you would use put
options and/or futures contracts to preserve the base capital. Both approaches are considered
active management strategies, but when the base amount is reached, you are adopting a passive
approach. Insured asset allocation may be suitable for risk-averse investors who desire a
certain level of active portfolio management but appreciate the security of establishing a
guaranteed floor below which the portfolio is not allowed to decline. For example, an investor

49. who wishes to establish a minimum standard of living during retirement might find an insured
asset allocation strategy ideally suited to his or her management goals.
For example, let‘s assume a portfolio of $100, a floor value of $75 and a multiplier of 2. As
the initial cushion is $25 (100-75), the initial investment in stocks is $50 (25x2). Thus, the
initial mix is 50/50 shares/cash. Suppose the share market falls 10%, hence the investor‘s
shares will fall from $50 to $45. The total portfolio value is now $95, and the cushion is $20
(95-75). According to the CPPI rule, the new stock position is $40 (20x2). This requires the
sale of $5 of shares and investment of the proceeds in cash. If shares fall further, more will be
sold. If they increase in value, shares will be bought, and so on.
Integrated Asset Allocation
With integrated asset allocation you consider both your economic expectations and your risk in
establishing an asset mix. While all of the above-mentioned strategies take into account
expectations for future market returns, not all of the strategies account for investment risk
tolerance. Integrated asset allocation, on the other hand, includes aspects of all strategies,
accounting not only for expectations but also actual changes in capital markets and your risk
tolerance. Integrated asset allocation is a broader asset allocation strategy, albeit allowing only
either dynamic or constant-weighting allocation - obviously, an investor would not wish to
implement two strategies that are competing with one another.
Conclusion:
Year 2008 was an exceptional year for all the economies across globe. It started with euphoria.
The economies were booming. Beginning of the year saw the Indian stock market at a life time
high of 21K levels. Everything looked rosy. But by the end of the year we were at the other
side of the spectrum. Almost all economies are slowing down and some have even gone in
recession. Reputed investment banks & insurance companies in the US have perished. World‘s
largest housing mortgage companies have been bailed out. The leading automobile companies
across globe are close to bankruptcy. Unemployment is at peak levels. There are no takers of
the real estate. Stock market has crashed. But at the same time bond markets outperformed the
benchmark because of rising interest rates which in turn was the result of high inflation. Most
of the private equity funds, art funds are at all time low, but at the same time some of the

50. commodities & gold gave decent return on investments. This proves that most of the asset
classes are not correlated with each other, rather some of them have negative correlation. Thus
diversification is the key to success.
Millionaires in India are rising with the fastest pace in the world, thus need for a wealth
manager is rising exponentially. India has a high potential market for the wealth management
firms, and this is one of the most important reasons, why all major foreign players are setting
up or planning to set up their outfit here. The importance of this HNI segment has been
realized globally and as a result all large banks and brokerage houses have a huge pressure to
attract and retain these customers who are typically more profitable than retail banking,
brokerage and insurance customers. The wealth management industry has grown far more
competitive, with financial institutions, professional services firms, independents and other
advisors and service providers actively fighting for HNI clients. At this stage it becomes very
important for an investor to evaluate the firms on various parameters.