Securities: Types, Features, Asset Allocation and Investing for NISM certification
This chapter is the toolkit of the course: what equity, debt, hybrids, commodities and derivatives are, why issuers choose one or the other, how investors mix them, and the basic measures used to judge shares and bonds.
Operations & MarketsSeries XII64 MCQs4 lessons25 flashcards4 memory tricks
Practise Securities: Types, Features, Asset Allocation and Investing free
What you'll learn
- Equity or debt: the basic choice
Compare equity and debt from the issuer's and the investor's side. - Types of equity and debt
Recognise the main variations of equity and debt securities. - Hybrids, depository receipts, commodities and derivatives
Describe instruments that mix features or sit outside plain equity and debt. - Asset allocation and judging investments
Use asset allocation, then apply basic equity and debt measures.
Key formulas
| Earnings per share (EPS) | Net profit for shareholders ÷ number of shares |
|---|---|
| P/E ratio | Market price ÷ EPS |
| Book value per share | Net worth ÷ number of shares |
| Price-to-book | Market price ÷ book value per share |
| Dividend yield | Dividend per share ÷ market price |
| Current yield (bond) | Annual coupon ÷ market price |
Concepts explained
Equity versus debt
Equity makes the investor an owner with a residual, variable return; debt makes the investor a lender with a fixed claim.
What it means
- Equity: dividends not fixed, permanent capital, votes, paid last.
- Debt: fixed interest, repaid on maturity, no votes, paid before shareholders.
- Leverage magnifies shareholders' gains and losses.
- Borrow at 12%, earn 14% on assets
- Lenders get 12%
- Extra 2% goes to shareholders
Answer: Shareholders gain when returns exceed borrowing cost
Related terms
- Residual claim: what is left after all others are paid
- Dilution: fall in existing owners' share when new equity is issued
Money market instruments
Money market instruments are debt securities with maturities up to one year, usually issued at a discount.
What it means
- T-bills: 91, 182 and 364 days, government, auctioned by RBI.
- Commercial paper: rated, unsecured company debt up to a year.
- Certificates of deposit: issued by banks and FIs.
- Repo and TREPS: very short-term secured borrowing.
- A 91-day T-bill of face value ₹100 is bought at ₹98.50
- At maturity the holder receives ₹100
- Gain ₹1.50 over 91 days
Answer: Return comes from the discount
Related terms
- Discount instrument: issued below face value, redeemed at face value
Depository receipts
A depository receipt represents shares held by a custodian and lets them trade in another country's market.
What it means
- ADR: listed in the USA.
- GDR: listed in other foreign markets.
- IDR: foreign company's receipts listed in India, for resident Indians only.
- Holders get dividends and price gains.
- Shares are deposited with a custodian in India
- A foreign depository issues receipts
- Receipts list on a US exchange
Answer: That is an ADR
Related terms
- Custodian: holds the underlying shares
Bond prices and interest rates
When interest rates rise, existing bond prices fall, and the reverse.
What it means
- A bond's fixed coupon becomes less attractive when new bonds pay more.
- Longer maturity and zero coupon bonds are most sensitive.
- Duration measures this sensitivity.
- A bond pays 7%
- New bonds pay 8%
- Buyers will pay less for the 7% bond
Answer: Its price falls
Related terms
- Current yield: coupon ÷ price
- YTM: total return if held to maturity
Exam tip: Remember the see-saw: rates up, prices down.
Memory tricks
Treasury bills: 91, 182 and 364 days.
Types of depository receipts.
Lenders rank ahead of shareholders.
At least 25% is paid on issue and forfeited if not exercised.
Try 3 NISM-style questions
Q1. Preference shareholders differ from debenture holders because preference shareholders
- Are secured on the company's assets
- Are owners of the company, and their dividend is paid only if profits allow
- Receive interest that is tax-deductible for the company
- Must be repaid before all lenders
Show answer
Answer: (2) Are owners of the company, and their dividend is paid only if profits allow
Preference shareholders are owners; dividends depend on profits.
Q2. A fully convertible debenture
- Never converts
- Converts into gold
- Is repaid in foreign currency
- Converts entirely into equity shares on set terms
Show answer
Answer: (4) Converts entirely into equity shares on set terms
FCDs convert fully into equity.
Q3. For retail investors, a suitable way to invest in commodities is through
- Commodity ETFs and mutual funds
- Large positions in commodity futures without experience
- Distressed securities
- Structured products designed for institutions
Show answer
Answer: (1) Commodity ETFs and mutual funds
ETFs and funds suit retail investors.
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