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ANALYSIS OF EQUITY AND DEBT INSTRUMENTS

ANALYSIS OF EQUITY AND DEBT INSTRUMENTS. FIXED INCOME SECURITIES. BOND. Bonds refer to debt instruments bearing interest on maturity.

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ANALYSIS OF EQUITY AND DEBT INSTRUMENTS

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  1. ANALYSIS OF EQUITY AND DEBT INSTRUMENTS FIXED INCOME SECURITIES

  2. BOND • Bonds refer to debt instruments bearing interest on maturity. • Organizations may borrow funds by issuing debt securities named bonds, having a fixed maturity period (more than one year) and pay a specified rate of interest (coupon rate) on the principal amount to the holders. • Thus a bond is like a loan: the issuer is the borrower (debtor), the holder is the lender (creditor), and the coupon is the interest. Bonds provide the borrower with external funds to finance long-term investments.

  3. BOND FEATURES • Nominal, Principal or Face Amount—The amount over which the issuer pays interest, and which has to be repaid at the end. • Maturity date—The date on which the issuer has to repay the nominal amount. The length of time until the maturity date is often referred to as the term or maturity of a bond.

  4. Coupon—The interest rate that the issuer pays to the bond holders. Usually this rate is fixed throughout the life of the bond. The name coupon originates from the fact that in the past, physical bonds were issued which had coupons attached to them. On coupon dates the bond holder would give the coupon to a bank in exchange for the interest payment.

  5. TYPES OF BONDS • MUNICIPAL BONDS • Municipal bonds are debt obligations issued by states, cities, countries and other governmental entities, which use the money to build schools, highways, hospitals, and many other projects for the public good. • When you purchase a municipal bond, you are lending money to a state or local government entity, which in turn promises to pay you a specified amount of interest (usually paid semiannually) and return the principal to you on a specific maturity date.

  6. GOVERNMENT BONDS • Government Bonds are securities issued by the Government for raising a public loan. • They consist of Government Promissory Notes, Bearer Bonds. • Government Securities are mostly interest bearing dated securities issued by RBI on behalf of the Government of India. GOI uses these funds to meet its expenditure commitments. • These securities are generally fixed maturity and fixed coupon securities carrying semi-annual coupon

  7. Features of Government Securities Issued at face value Ample liquidity as the investor can sell the security in the secondary market Interest payment on a half yearly basis on face value Can be held in D-mat form. Rate of interest and tenure of the security is fixed at the time of issuance and is not subject to change. Redeemed at face value on maturity Maturity ranges from of 2-30 years.

  8. Corporate Bonds • Corporate bonds are debt obligations issued by private and public corporations. They are typically issued in multiples of 1,000 and/or 5,000. Companies use the funds they raise from selling bonds for a variety of purposes, from building facilities to purchasing equipment to expanding their business.

  9. Zero Coupon Bonds • Zero coupon bonds are bonds that do not pay interest during the life of the bonds. Instead, investors buy zero coupon bonds at a deep discount from their face value, which is the amount a bond will be worth when it "matures" or comes due. • When a zero coupon bond matures, the investor will receive one lump sum equal to the initial investment plus the imputed interest.

  10. Mortgage and Asset Backed Bonds • Mortgage-backed securities (MBS) and asset backed securities (ABS) represent the largest segment of the global bond market. • In simple terms, investing in MBS means lending the money to hundreds of individual mortgage borrowers across the country. Investors are subject to added "prepayment" risk, meaning money invested may be repaid much sooner than maturity.

  11. Fixed rate bonds • These bonds carry a fixed rate of interest for the entire life of the bond. • All coupon payments are made at the defined fixed rate till the maturity of the bond. • Floating rate bonds • These bonds do not have a fixed coupon rate. • Such coupon rate changes as per changes in benchmark.

  12. STRIPS • STRIPS is also known as separate trading of registered interest and principal of securities. • Issuer separates the interest or coupon payment receivable from a bond and converts these payments into separate securities and are sold to investors.

  13. Callable bonds • Right with the issuer of the bond to fully or partially redeem the bonds before its maturity • Puttable bonds • Right with the investors to sell the bonds to the issuer at any time before the actual maturity.

  14. Convertible bonds • Convertible bonds gives its holder a right to convert the bond into equity shares of the issuer company. • Such conversion can be done on maturity or before. • Convertible bonds are mixture of debt and equity.

  15. BOND RISKS • Market risk • Default risk • Liquidity risk • Call risk • Inflation risk • Interest rate risk

  16. Default risk and credit rating • Meaning of credit rating- • Credit rating is a process of determining the ability of an issuer of a bond in meeting obligations under a debt instrument. • Thus it is a process that evaluates the ability of an issuer to make coupon payments and repay principal amount to investors. • The agency awards a particular credit rating to the bond in a symbolic form to indicate the level of default risk in a particular bond.

  17. Factors considered in credit rating • Past performance of issuer • Business risk • Management risk • Financial risk

  18. Credit rating agencies in India • CRISIL (Credit Rating Information Services Of India Ltd) • ICRA (Investment Information And Credit Rating Agency Of India Ltd) • CARE ( Credit Analysis And Research Ltd) • BWR(Brickwork Ratings) • SMERA (Small And Medium Enterprises Rating Agency Of India) • India Rating And Research Pvt Ltd

  19. Advantages of credit rating to investors • Facilitates investment decision • Source of information • Facilitates comparison of investment options • Investor protection

  20. Disadvantages of credit rating • Opinion and not a guarantee • Ratings are based on past performance • Biased ratings • Misleading ratings • Difference in ratings of more than agency

  21. Estimating bond yields • Yield is a measure of return an investor earns on a bond. • Current yield • Yield to maturity • Yield to call

  22. Bond market indices • Sovereign bod market indices • Total return indices • Principal return indices • Duration based indices • Corporate bond market index

  23. Approaches to equity analysis • Introduction to fundamental analysis • Fundamental analysis is a study of underlying factors that impact securities prices • The stock prices would depend upon the earning potential of a company which is affected by factors that are internal or external.

  24. Characteristic of fundamental analysis • Application of EIC framework • Determination of intrinsic worth • Based on real information

  25. Process of fundamental analysis • Economic analysis • GDP growth rate • Inflation • Interest rates • Savings and investment growth • Budgetary deficit • Taxation • Infrastructure facilities • Monsoons • Business conditions • Foreign trade • International economic factors

  26. Industry analysis • Industry type analysis • Growth industry • Cyclical industry • Defensive industry • Industry life cycle analysis • Pioneering stage • Growth stage • Stabilization and maturity stage • Decline stage

  27. Industry growth analysis • Industry cost structure • Labour conditions • Competition • Product differentiation • Economies of scale • Capital requirement • Government policy towards industry • Substitution

  28. Company analysis • Company management • Integrity of management • Managerial competence • Encouragement to innovation • Level of professionalism • Tenure of top executives

  29. Company characteristics • Perception about company • Business model • Market position • Labour relation

  30. Company financial performance • Sales growth • Profitability and earnings growth • Composition of capital • Operating efficiency • Dividend payout • Solvency • Cash flow analysis

  31. Technical analysis • Technical analysis refers to analysis of share price and volume data to identify profitable equity investment opportunities and make forecast of future price movements. • Characteristics of technical analysis • Based on historic price and volume data • Charts, patterns and indicators are major tools • Draws conclusion on trends, sentiments and market timings • Relies on multiple tools

  32. Tools of technical analysis • Charts • Trend lines • Price patterns • technical indicators

  33. Line chart

  34. Bar chart

  35. Candlestick chart

  36. Upward trend

  37. Downward trend

  38. Trading range

  39. Support and resistance level

  40. PRICE PATTERNS • HEAD AND SHOULDERS

  41. Double top and bottom

  42. Price earnings multiple approach to equity valuation • Price earnings multiple establishes relationship between a company’s earnings and market price of the stock. • It is the ratio that represents the market value assigned to company’s earnings. • PE= market price of company’s share Earnings per share

  43. Interpretation of PE multiple • It is the price that market is ready to pay per rupee of earnings of the company. • PE multiple can be compared with the industry PE • PE multiple of two stocks in the same industry can be compared.

  44. Limitations of PE multiple • There is no standard PE ratio for all companies • Extremely high PE can be dangerous and excessive overvaluation • PE is dependent on current market price • PE cannot be interpreted in isolation

  45. Intrinsic value • The true value of the stock is its intrinsic value • Intrinsic value is inherent which is derived from company fundamentals • It considers factors that are internal to a company.

  46. Price to book value ratio • It is used to compare a stock markets price with its book value. • Book value of share indicates the amount of company’s assets available to equity shareholders after all liabilities are paid. • PB= market price per share/ book value per share • Book value per share = total assets- total liabilities and intangible assets/ No. of outstanding shares

  47. interpretation • If the ratio is high it would mean that market price is more than the book value of share. • if the ratio is low it indicates that market has possibly not discovered the true worth of company’s assets

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