Lecture 5 - Investment in Shares and Bonds.pptx

PERSONAL FINANCIAL PLANNING LECTURE 5 INVESTMENTS IN BONDS AND SHARES LEARNING OUTCOMES At the end of this chapter, you should be able to: Explaining the factors that determine an individual’s risk profile Analyze the risk and returns investments in bonds in Malaysia Discuss investment...

PERSONAL FINANCIAL PLANNING LECTURE 5 INVESTMENTS IN BONDS AND SHARES LEARNING OUTCOMES At the end of this chapter, you should be able to: Explaining the factors that determine an individual’s risk profile Analyze the risk and returns investments in bonds in Malaysia Discuss investment in shares in Malaysia. Discuss considerations that need to be made by individuals before investing in shares. Describe valuation methods and other factors that can impact share prices and returns. Discuss methods of investment in shares Discuss behavioural finance biases on personal investing decisions  Determination of an individual’s risk profile An individual’s investment risk profile will differ depending on his/her needs, life-cycle and lifestyle factors, attitudes and values as well as his/her changes in personal circumstances. Different reasons for investment(s): Safety needs – Value capital preservation in the short to medium term. Tend to be risk averse Income needs – Generation of stable passive income. Growth needs – Capital In Malaysia, capital gains from buying gain objective selling of shares, bonds and other Tax planning financial instruments are generally exempted from tax However, real property gains tax (RPGT) will apply for investments in properties.  Evaluating an individual’s risk profile Demographic factors - Consider the individual’s age, level of financial training and awareness, income level, family situation and job stability Attitudes and values Combination of emotions, beliefs and behaviours toward a particular subject matter. Attitudes can be formed as a result of upbringing/nurture and related experiences that may influence a person’s behaviour, including investments. Personal circumstances and special needs Past experience in investment Unexpected events such as retrenchment, health issues or death of  Types of investment and risk profile In investment planning, only once the risk profile of an individual is determined, can we begin the search for suitable investments. Level of risk Examples of Malaysian Investments Lower  Fixed deposit  Risk adverse investors  Amanah Saham Bumiputra(ASB)/ Amanah Saham Wawasan  Generally, focus more on capital 2020(ASW) preservation  Tabung Haji  Lower yield  Unit Trust – Balanced fund, Money Market fund, Fixed income/Bond fund Moderate  Unit Trust – Balanced fund, Equity fund, Index fund  Combination of dividend and capital  Commodities e.g. gold gains  Public listed shares  Longer term with moderate yields  Property investments including REITs Aggressive  Unit Trust – Aggressive fund, international funds, sectoral funds  Mainly capital gains and growth  Hedge fund/ foreign investments  High risk and high yields  Foreign exchange  Commodities  Stock market – speculative shares  Property investment- land, commercial and residential property.  Investment on A bond is a debtBonds security. It arises when a company has a large project/developments(s) that it needs to finance but it needs to borrow to do this. As the projects are usually very large, these companies require huge amounts of financing that bank borrowings alone may not be adequate. As such these companies would issue bonds in the capital market to attract lenders (also known as investors) to provide the financing. As we are dealing with huge loans (millions and billions of ringgit/dollars), the debt securities/bond issuers and lenders/investors in Malaysia are dominated by sophisticated investors such as pension funds, big banks and/or unit trust funds. Individual investors participate in the bond market through Investment in Bonds http://www.investsmartsc.my/investment-produ ct/bonds 12- 7  Credit Rating Rating Agency of Malaysia (RAM) Malaysian Rating Corporation Berhad (MARC) Moody’s Standard & Poor Fitch Rating As bond issuer’s credit rating decreases, it has to pay higher rate of interest to sell bonds and borrow money. 8  International Bond Rating Agencies https://www.bixmalaysia.com/Learning-Center/Articles-Tutorials/Why-is-Credit-Rating-Important-for-B  Malaysian Bond Rating https://www.bixmalaysia.com/Learning-Center/Articles-Tutorials/Why-is-Credit-Rating-Important-for-B 1 ond-and-Sukuk 0  Prepayment or Call Features Specific bond terms may cause bond’s price to react unexpectedly to changing interest rate. Issuers of bonds with a call feature may redeem/buy back their bond earlyissuers These if the can interest thenrates issueare newexpected bonds (orto fall. re-borrow) at a lower rate. In this case, the call reduces the coupon payments they have to pay. However, callable bond issuers may have to compensate investors with better coupons at the time the bond is issued (as the investors’ returns could be affected by the call feature). Bonds with infinite payback schedule will have different price strategies for changing interest rates. Some bonds have a call protection period. During this period, the bond issuer cannot exercise the call on the bond. 1 2  Bond Bond Price (P) valuation Factors that affect the bond price:  Changes in interest rate/yield (i) - The higher the yield (i), the lower will be the bond price(P), vice versa Inverse relationship between yield and bond price  Coupon rates  Coupon payments (C) are fixed act as a buffer against changes in bond price.  Ceteris paribus, for similar yield and maturity, the higher the coupon payments the higher would be the bond price.  However, if the yield increases (i), the bond price will reduce for similar coupon rates.  Maturity of the bond  Generally, the higher the maturity of bond, the greater would be its price at the same coupon rate and yield  Call features  Risks of investments in Bonds Interest rate risk Changes on yield that will affect bond pricing. Inflation risk – failure of returns to keep in pace with inflation Credit risk Risks that bond issuer will not be able to make the coupon/interest and principal payments as and when they fall due. Currency risk (for investment in foreign bonds) Liquidity risk Arises when investors may have difficulty finding a buyer and may be forced to sell at a significant discount to market value https://www.freem alaysiatoday.com/category/nation/2023/05/13/retiree-says-credit-suisse-collapse-cost-him- rm500000/?fbclid=IwAR0CEF9e977PEBwS4rYnLZqvSXKv26Pv4h2BOGXXTOBWG8Gq2KR- e0u2P0M  Investment in Sharesrepresents a part Shareholding of an ownership in a company. In Malaysia, anyone above the age of 18 can participate directly in the share market through an initial public offering and/or through a stock exchange for shares of listed companies. To buy and sell shares, one needs to open a Central Depository System (CDS) account with Bursa Malaysia. No maturities and guarantees of return in ownership of shares. Companies are assumed to be in existence on a going concern basis. Investments in shares are regulated by the Securities Commission (SC) and Bursa Malaysia. This Photo by Unknown Author is licensed under CC  Common reasons for investment in shares Flexibility of buying and/or selling part of your share investments at any time Diversification – many types of shares on Bursa Malaysia (income, growth, Blue Chip etc) Keeping in pace with inflation – Shares may provide a hedge against inflation. Considerable tax advantages. Capital gains arising from share investments are tax exempt in Malaysia. Currently dividend income is treated as single tier and also tax free in the hands of the investors.  Classifications of share investments Ordinaryin Malaysia versus Preference shares Ordinary shares have voting rights but rank below preference shares for dividends Capitalization level Classification based on large, medium and small capitalization FTSE Malaysia Indices classifications Other common classifications Blue chip shares – Generally based on FTSE KLCI 30 Cyclical shares - Sales and profits of cyclical companies and thus their share prices would fluctuate depending on the business cycle or condition of the economy. Defensive shares – Shares that have stable earnings and consistent dividends Income shares – Consistently able to pay above average dividends. Growth shares – Low dividends but focus on high growth in  FTSE Bursa Malaysia Indices For more details : Click the following link https://www.bursamalaysia.com/trade/our_products_services/indices/ftse_bursa_malaysia_ind ices/overview https:// www.bursamalaysia.com/sites/5d809dcf39fba22790cad230/assets/65828304cd34aa825433015f/FBMKLCI_Constituents_List_D ec2023.pdf  Mid & Small Cap Stocks Deliver Better Returns Over the Long Term https://bursaacademy.bursamarketplace.com/en/article/equities/mid-small-cap-stocks-deliver-better-returns- over-the-long-term  MESDAQ Versus ACE Market ACE Market – easier http://www.thestar.com.my/Story/?file=%2F2009%2F8%2F1%2Fbusiness%2F4429822&s ec=business to list 12- 22 Bursa Malaysia: FAQ on General Information of LEAP https:// www.bursamalaysia.com/reference/faqs/leap/faq s _on_general_information_of_leap SME Corporation:Box article : LEADING ENTREPRENEUR ACCELERATOR Platform (LEAP) MARKET https:// www.smecorp.gov.my/images/SMEAR/latest/Chapte Malaysian Information Sources Bursa Malaysia http://www.bursamalaysia.com/ market/ Securities Commission http://www.sc.com.my/ 12- 24  Pre-investment considerations for share investors Understand the main business activities the company is involved in. Review and monitor the performance of the company (at least 5 to 10 years) Find out more about the management of the company Exercise your voting rights This is if you are considering adding to your shareholding It is your right as the owner of an ordinary share to attend the annual general meeting and pose the relevant questions or raise Updated – 17 May 2024 https://www.bursama rketplace.com/mkt/themarket/stock/DBMS/charts Dutch Lady Milk Industries – Annual Report 2022 Retrieved 12 May 2023 from : https:// www.bursamarketplace.com/mkt/themarket/stock/DB MS https:// www.bursamarketplace.com/mkt/themarket/stock/NESM/ch arts Updat ed  Nestle Malaysia Berhad – Annual As at 12 May Report 2022 2023 https://www.bursamarketplace.com/mkt/themar https://www.nestle.com ket/stock/NESM.my/sites/g/files/pydnoa251/files/2023-03/CGFR-NESTLE-AR22.pdf https://www.nestle.com.my/sites/g/files/pydnoa251/files/2023-03/NESTLE-AR22.pdf Updated 16 May 2024 Top Glove Annual As at 12 May Report 2022 2023 https://www.bur samarketplace.com/mkt/themarket/stock/TPGC https:// www.bursamarketplace.com/index.php?ch=36&pg=8&ac=2169908&bb=reportd ocument https:// www.bursamarketplace.com/mkt/themarket/stock/BATO/ch arts https:// www.malaysiastock.biz/Report-Analysis/Top-KLSE-Dividend-Stock.as px Risks of investing in shares Market risk A systematic risk that affects all financial products (shares, bonds, derivatives etc) that are listed in the capital markets Business risk Unique risk that affects the company itself e.g. change in leadership, new competition, change in government Liquidity risk regulations, legal claims made against the company etc Due to lack of free cash flow of company to meet its obligations Due to the lack of trading of shares Currency risk (for foreign shares) Financing risk Related to the use of high leverage by the company leading to a high default risk. At individual level, if one borrows money to invest Interest on loans are fixed but there are no guarantees on return on shares  Could lead to insufficient cash flow to meet loan payments.  Valuation of share investments Dividend growth model P* 𝐷 (𝑟1𝑒 −𝑔 = ) Discounted Cash Flow Method Value of = Value of Assets (VA) - Value Equity (VE) of Debt (VD) VA P* = Value of Equity (VE) / Number of Outstanding shares Relative/Multiple valuation methods Use multiples such as the P/E, P/B and P/S  Measuring share (HPR) investment returns Holding Period Returns HPR (( End Share Price – Beginning Share Price) + = Dividends) 100 Beginning Share Price Annualised HPR [1 + HPR]1/n – 1 where n is the number of years = ∑ HPR/ n where n is the number of Average rate of data points return Geometric mean return Average Geometricrate of return = [(1 + HPR ) (1 + HPR ) (1 + HPR )......... mean 1 2 3 return = (1 + HPRn)]1/n – 1 where n is the number of data points Expected rate of return Expected rate of return = ∑ (Possible Return i * Probability of returni) Real rate of return  Factors that can have an impact on share prices Market imperfections Asymmetric information that will affect the supply and demand. Corporate exercises Bonus issues and share splits Rights issue Dividend signalling Mergers and acquisitions (M&A) Economic factors Example effects of movement in interest rates, inflation and foreign exchange  Example : Bonus Issue Setia Berhad (“SB”) has 2,400,000 shares as at 31 December 2019. The management of SB decides to give a 1 for 5 bonus issue (i.e. 1 free share for every 5 shares held) The price of a share before the bonus issue was RM1.65. How many shares will Setia Berhad have after the bonus issue exercise? What would be the theoretical ex-bonus issue share Price price? Total Value of per Share No of Share (RM) Share (RM) Market Value before Bonus Issue 2,400,000 1.65 3,960,000 New Bonus Issue Shares(= 480,000 2,400,000/5) After Bonus Issue 2,880,000 3,960,000 Theoretical ex-bonus price 3,960,000 / 2,880,000 = RM1.38 Note After the bonus issue, the number of shares have increased but the total value of the : share remains the same. 4 5 Alternative : Ex-Bonus Issue Price Need to have at least 5 shares to be entitled to 1 bonus share Let’s say own 5,000 shares: RM Original holding : 5,000 shares = 8,25 x RM1.65 Add: Bonus issue: = 0 1,000 shares x RM0.00 Ex Right 0 6,000 shares 8,25 0 Ex-Bonus Issue Price = 8,250/6,000 = RM1.38  https://www.bur samalaysia.com/trade/trading_resources/listing_directory/company-profile?stock_code=1295 https://www.bursamalaysia.com/market_information/announcements/company_announcement/announcement_details?ann_id=3120804  Example : Rights On 30 June 2019, issue the Board of Directors of Bersatu Tegas Berhad (“BTB”) announced that it will be issuing a 1 for 5 rights issue. According to the prospectus, the rights issue will be offered to shareholders registered on the books on 30 July 2019. The subscription price of RM1.85 and the last date to exercise the entitlement is 30 August 2019. The market price per share just before the rights shares were issued was RM2.50. On 30 August 2019, BTB had Alternative: Theoretical Ex- Right Price Need to have at least 5 shares to be entitled to 1 right. Let’s say own 5,000 shares and rights taken up in full: RM Original holding : 5,000 shares x RM2.50 = 12,50 0 Add: Rights issue: 1,850 1,000 shares x RM1.85 = Ex Right 6,000 shares 14,350  Example : Share Raymond Lee hasSplit 4,500 shares of KLB Berhad currently trading at RM2.58 per share. The company just announced a 3 for 1 share split. Total value of Raymond Lee’s investment before the share split Number of shares after the share split = 4,500 X RM2.58 = RM11,610 = 3 X 4,500 = 13,500 shares Share = price after the share split= RM0.86/share (1/3 of RM 11,610/13,500 original value) Share splits will lower the value per share, increase the number of shares to the investors but will not change the total value of the equity to the company. Reverse share splits will have the effect of increasing the value of the share.  Methods of share investing Fundamental versus technical analysis Fundamental investing – focus on key drivers of growth in a company to determine the intrinsic value of the shares of a company Technical analysis - operates on the belief that the fundamentals of a company are already reflected in the current share price and trading volumes Dollar cost averaging Involves making the same amount of investment at regular intervals of time (for example end of every month or year) Share margin trading (Speculative) Share margin trading involves an investor borrowing money to buy shares. It is speculative because the loan outstanding needs to be paid on time whereas there are no guarantees on the returns of shares that one has invested in. Short selling of shares (Speculative) Short selling of shares involves borrowing of shares (usually from a brokerage house) and selling them now with the hope of buying them back at a later time to cover the shares borrowed.  Behavioral aspects of share investments In reality, people are often irrational and decision making is a function of psychology, sociology and emotions. Basic instinct of fear and greed insidiously affects human judgements in investing The market comprises among others active, passive, intuitive and speculative who all hold and act based on a myriad of beliefs and perceptions which are somehow reflected in the share price.  Behavioural theories and Loss aversionbiases Prospect theory posits that investors tend to be more negative towards losses than the similar quantum of gains Availability bias Causes one to assign higher probabilities to an event based on ease of recall. Representative bias Stereotyping bias. Anchoring bias Human tendency to make decisions based on an implicit reference point or rule of thumb even though there is no logical basis for this Framing Effect The way the information is presented will affect the recipient’s evaluation process People don’t react similarly to Prospect gains and losses. They give different weight to gains Theory and losses. RM500 gains lower satisfaction than RM500 losses RM500 losses bring higher dissatisfaction than RM500 gain  Behavioural theories and biases (cont/…) Mental Accounting People often unconsciously think within the box. This violates the principle of fungibility Herding behaviour and overconfidence Herding behaviour happens when individual investors irrationally subscribe and mimics the behaviours of the crowd and ignore fundamentals. Overconfidence happens when investors often take bad bets as they fail to realize they are at an informational disadvantage. This over-optimism could lead to excessive trading. Gambler’s fallacy and speculation  Buying and Selling Shares Primary market Secondary Market Initial Public Offering (IPO) Traded among investors via brokers and dealers Usually the IPO will be underwritten by an investment bank Securities exchanges - Marketplace where members, representing investors, meet to buy and sell securities Over-the-counter markets- Network of dealers (Market Makers) who buy and sell the stocks of companies that are  Short-Term Investment Strategies Trading in options Option = the right but not the obligation to buy or sell a stock at a predetermined price during a specified period of time Call option Right to buy “Bullish” Put option Right to sell “Bearish” Not for amateurs or beginning investors  Regulated Short Selling (RSS) and Intraday Short Selling (IDSS) https://www.bursamalaysia.com/sites/5d809dcf39fba22790cad230/assets/60c2d7c139fba27932870e2e/Directive_on_the_List_of_Appr oved_Securities.pd f