A good investment programme is one which is consistent with the objectives of the investor, i.e., it should have all the advantages of fruitful investment. The following are the essential ingredients of a good investment programme.
Safety of funds invested is one of the essential ingredients of a good investment programme. Safety of principal signifies protection against any possible loss under the changing conditions. Safety of principal can be achieved through a careful review of economic and industrial trends before choosing the type of investment. It is clear that no one can make a forecast of future economic conditions with utmost precision. To safeguard against certain errors that may creep in while making an investment decision, extensive diversification is suggested.
The main objective of diversification is the reduction of risk in the loss of capital and income. A diversified portfolio is less risky than holding a single portfolio.
Diversification refers to an assorted approach to investment commitments. Diversification may be of two types, namely,
Vertical diversification; and
Under vertical diversification, securities of various companies engaged in different stages of production (from raw material to finished products) are chosen for investment.
On the contrary, horizontal diversification means making investment in those securities of the companies that are engaged in the same stage of production.
Apart from the above classification, securities may be classified into bonds and shares which may in turn be reclassified according to their types. Further, securities can also be classified according to due date of interest, etc. However, the simplest diversification is holding different types of securities with reasonable concentration in each.
2. Liquidity and Collateral value
A liquid investment is one which can be converted into cash immediately without monetary loss. Liquid investments help investors meet emergencies. Stocks are easily marketable only when they provide adequate return through dividends and capital appreciation. Portfolio of liquid investments enables the investors to raise funds through the sale of liquid securities or borrowing by offering them as collateral security. The investor invests in high grade and readily saleable investments in order to ensure their liquidity and collateral value.
3. Stable income
Investors invest their funds in such assets that provide stable income. Regularity of income is consistent with a good investment programme. The income should not only be stable but also adequate as well.
4. Capital growth
One of the important principles of investment is capital appreciation. A company flourishes when the industry to which it belongs is sound. So, the investors, by recognizing the connection between industry growth and capital appreciation should invest in growth stocks. In short, right issue in the right industry should be bought at the right time.
5. Tax implications
While planning an investment programme, the tax implications related to it must be seriously considered. In particular, the amount of income an investment provides and the burden of income tax on that income should be given a serious thought. Investors in small income brackets intend to maximize the cash returns on their investments and hence they are hesitant to take excessive risks. On the contrary, investors who are not particular about cash income do not consider tax implications seriously.
6. Stability of Purchasing Power
Investment is the employment of funds with the objective of earning income or capital appreciation. In other words, current funds are sacrificed with the aim of receiving larger amounts of future funds. So, the investor should consider the purchasing power of future funds. In order to maintain the stability of purchasing power, the investor should analyze the expected price level inflation and the possibilities of gains and losses in the investment available to them.
The investor should invest only in such assets which are approved by law. Illegal securities will land the investor in trouble. Apart from being satisfied with the legality of investment, the investor should be free from management of securities. In case of investments in Unit Trust of India and mutual funds of Life Insurance Corporation, the management of funds is left to the care of a competent body. It will diversify the pooled funds according to the principles of safety, liquidity and stability.