Chapter- 1.15 Investment Process

1.15 Investment Process

Process of Investment

The process of making an investment is an activity that calls for planning. It is possible with some effort to learn this and make well-informed investment decisions. This requires that the investor is able to:

Key Factors You Need To Consider Before An Investment:

There are several constraints that an individual has to take into account before making an investment. These include:

Liquidity:

This is one of the parameters used to measure the efficiency of an investment alternative or instrument. Liquidity is the ability to convert an investment into money. Higher the liquidity for an investment, higher would be its demand and vice versa. At the same time, marketability is the measure of demand for an investment instrument. The higher the demand, the easier it is to find a buyer. Liquidity of an investment provides security to the investor that the money would be available when needed. By way of example, Mrs Rupiah may sell the shares invested in a company any time because they have yielded high returns to pay off a house loan

Age:

The ability of an individual to take risk is linked with his/her age. Typically, the higher the age of an individual, the low is the risk appetite or tolerance.

Taxes

The government declares tax benefits for citizens through rebates, exemptions etc and these should be considered while making any investment. For example, under Sec 80CCC an investor gets tax benefit for his investments in ELSS(Equity Linked Savings Schemes). Investors need to take a call between the tax benefit and returns these schemes offer. Other options may not have a tax benefit but may be more lucrative in terms of returns.

Need For Regular Income:

Investors may have a need to obtain periodical or regular returns and this will influence their decision to invest in such instruments

Time Horizon:

As explained before, the time horizon will vary from short term (as short as one day) to long term which could be a few months to several years

Risk Tolerance :

Investment decisions are always a trade off between the risk appetites of the investor versus the returns expected. This relation has already been explained.

Lack of time:

Some investment instruments like equity (shares), mutual funds, real estate, and insurance products need a fair amount of analysis to ensure that the return profile is understood. Sometimes investors, typically professionals like doctors or lawyers who are interested in these investments, may not be able to spare the required time for performing the analysis. They may then seek the help of an intermediary or an advisor. The advisor’s investment objectives may or may not match with those of the investor and this in itself constitutes a risk. Therefore, there is no excuse to blindly relying on someone’s advice without possessing reasonable knowledge of the investment

Price Discovery:

Several assets such as shares are very active market instruments and may be volatile. This creates uncertainty in the minds of the buyer as to the direction the price will move towards if they buy. Will it come down leading to a loss or go up resulting in profit?