Th Role of Intrst-Bring Suritis - Essay Example

Intеrеst-bеаring Sесuritiеs аnd thеir Role in Роrtfоliо Маnаgеmеnt Name Course number University Date Interest bearing securities can actually be defined as notes, mortgages, bonds, debentures, and trust certificates of equipments, certificates of indebtedness or other sources of debt that yield interest as time goes by. They actually contrast the equity securities which have been established to yield dividends and other forms of business distributions. Equity securities take the dimensions of stocks amongst many other dividend producing securities. Figure: A view of Phillip securities trading platform Interests and dividends contrast in the manner that interest is a fixed charges which if not dully paid, the creditor is entitled to legal recourse whereas the dividends are not fixed charges but rather profits. There exists no legal recourse regarding the dividends. Portfolio management is the act of selecting or coming up with the right investment policy for the investors to be or individuals that entails minimum risk and at the same time having maximum returns on an investment. Therefore portfolio management is vital for investors and the parties who advice investors in the choices of investments they undertake. It is evident now that portfolio management enables individuals come up business plans that are viable since the risks are minimal and the returns on an investment are maximum. Therefore this management enables maximum utilization of resources and effective management of time by the entrepreneurs. Also the portfolio management enables portfolio managers to come up with customized investment solutions as per clients needs and requirements, such solutions have minimal risks. There exist several types of portfolio management. We have the active portfolio management which involves buying and selling of securities to ensure good profits to investors. The next type is the passive portfolio management followed by discretionary Portfolio management and non- discretionary Portfolio management. (1) Money markets securities play key roles in today’s business realm. Money markets are sometimes called equivalent cash or simply cash. They are short term debt securities and they are actually very marketable. They are easily accessible to small investors and they take the dimensions of the treasury bills, the certificates of deposits and federal funds among other variables. Corporate sector and longer term government bearing securities are securities which are better to invest in rather than assets like the real estate and the motor vehicles. The maturity period of these kinds of securities in minimal and the risks involved are also minimal. Take for example the treasury bills whose maturity period in normally less than a year and the bidding process in normally very competitive meaning that the price per unit is somewhat very high. Figure: The American currency, the dollar Certificates of deposits also money market securities whereby the bearer is entitled a certain value of interest and date of maturity. You can clearly understand that the depositor knows what amount of profits to expect and after what period of time. Same case applies for the managed interest bearing funds and the corporate sector interest bearing securities. Therefore portfolio management plays a key role in the management of these securities and funds. It is through the knowledge of the management that we can make the wisest decision regarding each of the securities and most sound investment plan. We have established that securities are better to invest in since the maturity period is well calculated and the interests are also properly calculated. (2) Asset allocation process essentially involves four basic processes. These process steps are; the creation of the input assumptions, the creation of an efficient frontier, the implementation of the set target portfolio and the creating a means of rebalancing the plan. Under the creation of the input assumptions, the forecasting of the covariance, the risks and the returns is undertaken. In money market securities, the allocation is generally the cash money. The risks involved are established are investments with minimal risks but high returns opted for. In other securities, the interest is negotiated according to the risks and returns and the period of time to be undertaken. We note of the difference between the two since money markets deals essentially with the cash whereas the later deals in interests and period of time. The next process step of asset allocation is the creation of an efficient frontier and selecting most suitable portfolio. A target portfolio is one that satisfies both your quantitative and qualitative requirements. An investor should ensure that he or she is properly compensated for the risk involved in the target portfolio. The third step is the implementation of the target portfolio. This is the critical step where the investor and managers ought to follow keenly. Investors can use the external managers to correctly map the target portfolio for them. The final step of asset allocation is the rebalancing of the investment plan. You can rebalance either quarterly, annually or after certain set boundaries. Rebalancing essentially ensures that goods returns on an investment are realized in the stipulated time of the investment. Investments that involve bearing of interests are best to rebalance after some period of time. (3) There are several ways in which a security can be evaluated. The first method of valuation of the securities is the top down approach. This method involves first analyzing the economy and them proceeding to the specific analysis. Therefore an investors starts by analyzing the economy of the nation and then the industries and then compares the relevance of the different securities. For example in the stocks, an investor should analyze the dividends, in the bonds investment; an investor should analyze the cash flow basics. Therefore we have established that returns on different investments are what to look for when making a choice in investment plans. The next valuation technique is referred to as the dividend discount model. For example company A expects to pay its shareholders equity of $0.25 per share at the end of the year. An investor hopes that the company stock will close at $30 per share. Given a rate of 10%, what is the rate of the company`s share? The answer is $27.5, by analyzing the price of the shares and dividends per share an investor can make a wise decision on which specific investment to undertake. (4) Asset class is easily defined as a group of securities with similar financial characteristics. This can easily mean that they are subject to same laws and the regulations as well as market competition. Under the asset class we have the; the stocks or equities, money market, fixed income or bonds investments and he real estate sector. When the above assets are subject to same financial characteristics and evaluated after a period of ten or more years, their performances will be very different. Some will have outclasses others in their value. Some may have depreciated and losses incurred. For example the real estate assets appreciate as time goes by and their values after ten years will be more than what they cost tens years back. In the stocks sector, two probabilities can occur, shares of a certain company that grows well as days go by will increase in their value but if a certain company dwindles in fewer profits and more expenditure then, value of its shares will down. Either can happen in a period of ten or more years. A company could also recover and make profits. It’s generally a volatile market but the more the risk, the better the returns. Same case applies to the money market when inflation sets in. when large sums of money are involved and inflation sets in affecting the prices of goods and services, then gains and losses occur in hand with each other. It’s a volatile market but less volatile than the stocks and bonds markets. To note is that bonds market is more stable than the stocks market. (5) we have several portfolio strategies or techniques in use in today`s management realm. We have the immunization technique; in this technique predetermined benchmark is used as the basis for the generation of sufficient funds to satisfy a single liability in an investment venture and does not take into account the future interest rates. Therefore this particular technique calls for a design of a portfolio that can actually achieve the performance of the predetermined benchmark. The second specialized technique is the patient portfolio under this technique, a manger or an investor makes investments in stocks whose facts are well known. They buy the stocks and hold them for longer periods and later sell them at higher values than those they bought at. This technique is mostly practiced on companies that have classic growth and which are expected to generate very high earnings in the future time to come since their growth has already been forecasted. Most researchers have established that those companies command a large share of the market in their specific industry of practice and they have almost monopolized the market, such companies include the likes of Coca-Cola who have commanded the beverage industry due to the nature of the trade secrets they have. The other specialized technique we have in the portfolio management is what is referred to as the top down approach, managers or rather the investors are tasked with observing the market as a whole and consequently decide what industries and sectors they should venture in. The decisions they make are based on the performance of those sectors. Well performing and those forecasted as to perform even better in the future are the preferred ventures. Aggressive technique involves investing in expensive stocks since they have been established to provide good returns although the risks involved are big. The stocks traded here are mostly from companies that are growing and are normally expected to generate rapid earnings over a short period of time in the future. (6) There exist several risks in the money market and longer term interest bearing securities. These risks pose a great challenge to the investors all over the globe. The interest rates risk arises due to the fluctuations in the rates of the considered instruments which are always of great concern in the money market and other securities. In money markets, large amounts of funds are involved and transactions are carried out in speed meaning that the values of the assets are exposed to fluctuations. If such fluctuations are wide, then large gains or losses are incurred since the instruments of money markets and government securities usually decline. Reinvestment risk is another risk; this risk has been established to arise when the interest rates start declining due to hardships in the economy among other factors. Default risk is the third risk. This kind of risk arises when the borrower defaults the principal sum of money borrowed. However the government securities are normally considered risk free of this kind of risk. Inflation risk occurs when the prices of goods and services rise thereby reducing the purchasing power of the lender. If this occurs, then the longer term interest bearing securities get affected negatively. Currency risk is another of its own risk; when multi-currencies are involved in the transactions, losses are inherent because of the exchange rate fluctuations. Money market players especially those overseas are normally exposed to this risk most of the times. Commercial banks involved in buying and selling of the currencies are certainly exposed to this kind of rick since they might buy a certain currency at a higher value and later sell it at a lower value meaning that losses will be incurred. Finally political risk affects all types of business ventures. Stability of a nation is the key player to how securities and money markets perform. A stable nation will have a stable economy meaning that the money markets will be competitive and hence activity of both securities and money markets will be fair with minimal losses since no fears are experienced unlike in troubled nations where the future cannot be forecasted. (7) Foreign issued money markets play a role in the portfolio management processes. Money in the money market does not necessarily imply the cash notes but rather assets that can be turned into cash money in short notice. Therefore portfolio managers are equipped with great technical know-how oh how to handle such assets and money and how to manipulate either of them to ensure sound investment plan with sizeable returns. Foreign issued money markets are markets in a particular company where the monies are issued by foreign companies. Issuance of foreign currencies in a country ensures there exist no deficit in certain type of currency which otherwise would lead to inflation. Portfolio managers are thus well informed how to balance their transaction activities regarding the currencies since they have the statistics. Medium term debts are debts which must be paid between a periods of two to ten years after the money is borrowed. Longer term debts are paid for several years (more than ten) after they are borrowed. Since the payback periods are essentially known, then the portfolio managers can be able to accurately map out the returns on an investment and pay the loans without any default. Thus medium to longer term debts are easily handled by well thinking investors and managers. Also the borrowers of such debts get to know amounts of interest they will pay above the principal sums and through this way, many small and medium investors have been able to acquire assets and transform their businesses into large fortunes. We can conclude that we have clearly understood different types of securities, how they perform and what management skills are used by high caliber business personalities across the globe. Also we have established risks that are normally involved in businesses and types of portfolio management techniques that are in use today`s business world. Finally, it has come to our attention that most successful investors sought funds that were paid back on medium to longer terms. We can recommend that portfolio managers be educated on technological software’s that will help them forecast into the future so that they do not fail in their decisions. References Andritzky, Jochen R. Government Bonds and Their Investors: What Are the Facts and Do They Matter?Washington, D.C.: International Monetary Fund, 2012. Internet resource. Reilly, Frank K. Investment Analysis and Portfolio Management. Chicago: Dryden Press, 1985. Print. Boyes, William J, and Michael Melvin. Microeconomics. Boston: Houghton Mifflin, 2008. Print. The Standard for Portfolio Management. Newtown Square, Pa: Project Management Institute, 2013. Internet resource. Journal of International Financial Markets, Institutions and Money. Amsterdam: North-Holland, 1991. Internet resource. http://images.wisegeek.com/big-pile-of-cash-with-a-hundred-on-top.jpg Read More