Marketable Securities

 

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CHAPTER III

                                            MARKETABLE SECURITIES

 

INTRODUCTION: -

            Marketable securities are those securities, which can be converted in to cash easily. That is it can be converted in to cash conveniently and promptly. Hence it is also known as near cash assets. If the securities can be sold or realized quickly without much loss of price, it is highly liquid or marketable. So the marketability of the security depends upon two factors i.e.; price and time. If the securities need much time for sale and these are sold on unfavorable prices. Such securities are not liquid and less marketable securities.

            Examples of marketable securities are Government Treasury Bills, Commercial Bank Deposit, Intercorporate deposits etc

INVESTMENTS IN MARKETABLE SECURITIES

                Business firms having excess cash should normally be invested in marketable securities. Which can be conveniently and promptly converted in to cash? Generally business firms can excess cash because of, 1) fluctuation of working capital requirements due to seasonal demands, 2) extra cash for meeting unpredictable financial needs.

            In the first case excess cash may be building during slack seasons but it would be needed when the demand picks up. In the second case, a firm holds extra cash because cash flows cannot be predicted with certainity. In these two cases the excess cash is usually invested in marketable securities.

            In short temporarily investments in marketable securities helps to earn return on idle cash and also these securities can easily convert in to cash as and when a need arise. The firms’ policy regarding the mix of short term financing will affect the investments in marketable securities.

OBJECTIVES OF INVESTMENTS IN MARKETABLE SECURITIES

            Generally the decisions relating to investments in marketable securities are based on the decisions relating to cash management and working capital management. The main objectives if investments in marketable securities are;

1)      To increase the cash balance when cash deficit occurs, by selling the marketable securities purchased during the periods of cash surplus. When a need arise, the securities are sold immediately and without much loss of principal amount.

2)      To mop-up or decrease the temporary cash surplus, by purchasing the marketable securities.

There is also a secondary objective of investment in marketable securities. This objective is to earn reasonable profit on temporary cash surplus.

                                                                                                      

MANAGEMENT OF INVESTMENTS IN MARKETABLE SECURITIES

            Cash surplus and deficit are natural phenomena in the working life of an understanding. Therefore management of cash surplus and deficit by managing investments in marketable securities is inevitable aspect of marking capital management. In this aspect the main function of management is to select the appropriate securities to best match the requirements of the desired marketable securities portfolio.

            Marketable securities portfolio means a mix of different types of shares, debentures, bonds, and other commercial papers. A firm may purchase marketable securities have different prices, different rates of return, different maturity period and different degrees of marketability. The relative proportion of different securities in the total investment in marketable securities is known as Marketable Securities Portfolio.

            In short management of marketable securities includes the following three important aspects;

1)      Forecasting and estimate of size and timing of cash surplus or cash deficit.

2)      Selection of appropriate security for investment

3)      Policy decision for desired portfolio of marketable securities.

Selection and Investment in appropriate security is the main aim of mgt.

             I.      FORECAST AND ESTIMATE SIZE AND TIMING OF CASH SURPLUS OR CASH DEFICIT: --

                        With the help of various techniques (i.e. cash budgets, Baumol’s model, Miller-Orr model etc) an enterprise can forecast the size and timing of cash surplus. If the cash surplus is expected to exist for a certain period of time, the firm may purchase marketable securities during that period. If cash deficit is likely to occur during a certain period the firm may sell marketable securities during that period.

                        Some times the firm intentionally kept cash surplus for meeting some expenses i.e. payment of tax, purchase of fixed assets during a particular period. These cash surplus is also invested in marketable securities.

          II.      SELECTION OF APPROPRIATE SECURITIES: --

Marketable Securities portfolio requires selection of appropriate or suitable securities. The suitability of a security depends upon the following factors;

           

·         Safety: - It means that amount invested is intact. eg. If a share is purchased at a price of Rs 100 and its price in the market is the same for that period and after that period, then the amount is invested is intact. But this is possible only theoretically. In the real world the price will move upward and downward. Downward movement produce loss and upward movement produce gain. This is a loss of safety in downward movement. Safety there fore referse to realization of principal money by selling the securities in the market before the maturity or realization of principal money by holding the security till the maturity date.

·         Return on Investment: - In the case of debentures the rate and amount of interest is known and the trends in market prices may be used to indicate the size of capital appreciation or depreciation. Similar is the case of preference shares. It is the equity shares in which case

both the dividend and capital gain or loss uncertain. It is one of the object of investment in marketable securities is to gain some return on investment.

·         Marketability: - The prime requests of the near cash asset is that they can be liquidated as & when required to replenish cash. It referse to convenience and speed with which a security can be converted in to cash. Marketability depends upon two factors, price and time. If the security is sold quickly without reduction in their price, it is highly liquid.

·         Maturity: - In the case of a firm want to invest their amount for a fixed period, say 3 months, 6 months, and 9 months. The company prefers to invest their surplus cash in short-term securities. Maturity depends only in that case, where the firm kept surplus cash to meet future needs like purchase of capital asset etc.

• Taxability: -

The firm should always select tax shield securities and investment channels while investing their excess cash. Income Tax Act list a number of investment opportunities which will make assesses eligible for exemption from tax liability, or which will give rebate on tax payable.

III. POLICY DECISION FOR DESIRED PORT FOLIO: --

                  Policy decisions for desired portfolio are affected by availability of cash, nature of available cash, risk and return from investments in marketable securities. If cash is available for a very short period say two or three days, then very liquid securities should be purchased. Such securities should have a fixed principal and their value should change very little.

                  If given cash surplus is needed for disbursements at a known date; then securities maturing on that date or one or two days earlier should be purchased. If surplus is available for long period, say 6 months, and 9 months, consideration should be given to diversification of investments by selecting shares and debentures of different companies.

POLICIES REGARDING INVESTMENTS IN MARKETABLE SECURITIES

                  This is relating to the objectives of investment in surplus cash. The objectives are expected in terms of risk and returns. The primary objective is safety with liquidity and secondary objective is yields or earnings keeping in view of these factors, the investments polices of individual firms are;

1.      Conservative Investment Policy:-

When a firm has small amount of excess cash, it may not think it proper to invest in such securities, which may yield relatively better earnings and involve more risk. Further a firm having volatile cash flows and seasonal nature of business is likely to care more safety of principal than for earnings.

2.      Mid – way Investment Policy:-

In this a firm can invest excess cash in different securities with different maturity period, different earnings, different degrees of risk attached to convert in to cash. The important feature of this type polices is that a part of excess cash is invested in such securities which can converted in to cash without advance notice and without loss. Remaining excess cash is invested in such securities, which are not so liquid but offer high earnings.

3.Liberal or Aggressive Investment Policy: -

           This policy is characterized as high-risk return policy. The emphasis is on maximization of return. By adopting this policy the firm may take advantages of yield differences among maturities as well as among various types of securities.

TYPES OF MARKETABLE SECURITIES

1. Treasury Bills (TB’s): - TB’s are short-term govt: securities. The usual practice in India is to sell treasury bills at discount and redeem them at par on maturity. The TB’s are issued by RBI on behalf the central govt: These bills are issued only in the bearer form. Name of the purchaser is not mentioned on the bills. So the bills are easily transferable, thus they have liquidity. The return on the TB’s is the difference between the issue price and redemption price.

2. Commercial Papers (CP’s): - Commercial papers are short term unsecured securities issued by highly credit worthy large companies. They are short-term promissory notes issued with a maturity of 3 months to one year.

3. Certificate of Deposits (CD’s): - CD’s are papers issued by bank acknowledging fixed deposit for a specified period of time. Certificate Deposits are negotiable instruments that make them marketable securities.

4. Deposit with Commercial Banks: - Purchasing fixed deposit certificates from the banks are very safe short run investments.

5. Money Market Mutual Fund: - It have a minimum lock in period of 30 days and after this period an investor can withdraw his money at any time at short notice or even across the counter in some cases. They offer attract yield, yields are usually 2% more than on bank deposit of same maturity.

6. Intercorporate Deposits: - These are popular short-term investments alternative for companies in India. Generally a cash surplus company will deposit or lend its funds in a sister or associates companies or with outside companies with high credit standing. The risk of default is high but returns are quite alternative. Types of Intercorporate Deposits are;

1. Call Deposit: - It is a deposit, which a lender can withdraw on one days notice. In practice it takes three days to get this money.
2. Three Months Deposit: - These deposits are popular and are used by borrower to tide over short-term inadequacy of funds.
3. Six Months Deposit: - The lender may not have surplus funds for a very long period. Six-month period is normally the maximum, which the lender may prefer.

7. Zero coupon bonds: - It means the bonds or debentures are issued by the company at a discount from their eventual maturity value and having zero interest rates.

8. Shares, Debentures, Bonds listed in the stock exchange

CONCLUSION        

            A firm should hold an optimum balance of cash, but in practice it is very difficult to control cash outflows and inflows because it is a natural phenomenon in the working life of an enterprise. If a firm having excess idle cash temporary that firm can invest the excess cash in short term marketable securities. In choosing these securities, the firm must keep in mind safety, maturity and marketability of investments. Forecast the size and timing cash surplus, selection of appropriate securities and deciding portfolio is the different aspect of management of investments in marketable securities.

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