Fundamentals of Investment

Four Money Market Vehicles

1. Treasury Bills: Short-term government papers (91/182/364 days in Nepal) sold at a discount through NRB auctions.
2. Commercial Paper: Unsecured short-term promissory notes issued by creditworthy companies to meet working-capital needs.
3. Certificates of Deposit: Bank-issued time deposits with fixed maturity and interest, negotiable in secondary dealing.
4. Banker’s Acceptances: Time drafts guaranteed (accepted) by a bank, widely used to finance trade.

Investment Process for Financial Assets in Nepal

1. KYC and Demat Account: Open a dematerialized account with a CDSC-licensed depository participant — citizenship, PAN, photograph, and bank details required.
2. Broker Selection: Choose a SEBON-licensed broker (NEPSE member) and sign the client agreement.
3. Trading (TMS) Account: Activate the broker’s online Trade Management System login for order placement.
4. Fund Transfer: Load the trading wallet via connectIPS, bank transfer, or cheque through the linked bank account.
5. Order Placement: Enter buy/sell orders (market or limit) on TMS during NEPSE trading hours; orders match on price-time priority.
6. Clearing and Settlement: Trades clear through CDSC on a T+2 cycle — shares credit to demat, funds settle to bank.
7. Monitoring and Review: Track holdings, corporate actions (dividends, bonus/rights), and rebalance toward goals.

Present Investment Environment in Nepal

Nepal’s investment environment has deepened rapidly: demat accounts run into millions, daily NEPSE turnover is a household topic, and banks, insurers, hydropower companies, and mutual funds compete for savings. Growth drivers include a young investor base, mobile trading (TMS), expanding merchant banking, and steady hydropower and banking listings. Constraints remain — limited free float, high retail speculation, thin corporate bond supply, and policy swings around margin lending and capital gains tax.

Types of Security Markets in Nepal

1. Primary Market: New securities are issued via IPO, FPO, and rights offerings approved by SEBON and managed by issue managers; applicants apply through C-ASBA.
2. Secondary Market (NEPSE): Listed shares, debentures, and mutual fund units trade continuously through licensed brokers with T+2 CDSC settlement.
3. Money Market: NRB, commercial banks, and finance companies deal in T-bills, interbank lending, and short-term deposits.
4. Bond Market (developing): Government development bonds plus NEPSE-listed corporate debentures; institutional base led by CIT, EPF, insurers, and the Social Security Fund.
5. Mutual Fund Market: Mostly closed-end schemes trading on NEPSE at premiums or discounts to NAV, alongside a growing open-end segment.

Investment vs. Speculation

• Investment: Commitment of funds based on thorough fundamental analysis to achieve steady return and capital preservation over a long horizon.
• Speculation: High-risk trading targeting short-term capital windfalls based on market rumors and price volatility.

Bank Discount Yield vs. Bond Equivalent Yield

Bank discount yield understates true yield because it uses face value in the denominator rather than actual purchase price, and assumes a 360-day year instead of 365 days.

What is Investment?

Investment is the commitment of current funds to one or more assets with the expectation of earning future returns that compensate the investor for three things: (1) the time value of money (waiting), (2) expected inflation (erosion of purchasing power), and (3) risk and uncertainty (the possibility that actual returns differ from expected returns).

1. Sacrifice now, benefit later: Consumption is postponed; funds are locked into assets.
2. Return expectation: Investors demand interest, dividends, rent, or capital gains.
3. Risk-return trade-off: Higher expected returns always accompany higher uncertainty.

Types of Investments

1. Direct vs. Indirect Investment: Direct means the investor personally buys securities (e.g. NEPSE-listed shares through a broker). Indirect means investing through intermediaries such as mutual funds or CIT schemes, which pool money and manage portfolios professionally.
2. Financial vs. Real Assets: Financial assets are paper/electronic claims (shares, debentures, T-bills, mutual fund units). Real assets are tangible (land, buildings, gold, machinery).
3. Fixed-Income vs. Variable-Return: Fixed-income promises scheduled payments (bank fixed deposits, debentures, government bonds). Variable-return securities (ordinary shares) pay uncertain dividends plus capital gains.
4. Short-Term vs. Long-Term: Money-market instruments (T-bills, commercial paper) mature within a year; capital-market securities (shares, long debentures) fund long horizons.
5. By Issuer: Government securities (NRB-issued T-bills and development bonds, near risk-free) vs. corporate securities (company shares and debentures carrying business and financial risk).

What is a Fixed Income Security?

A fixed income security is a debt contract under which the issuer promises to pay the holder a specified, scheduled stream — periodic interest (coupons) plus repayment of principal at maturity. Its defining features are:

1. Contractual cash flows: Amounts and dates are fixed at issue, unlike uncertain equity dividends.
2. Maturity date: A stated redemption point (short money-market to long capital-market).
3. Priority of claim: Debtholders are paid before shareholders in distress or liquidation.
4. Lower risk, lower return: Certainty of income trades off against limited upside.

Types of Fixed Income Securities

1. Treasury Bills (T-Bills): Short-term government papers (91/182/364 days in Nepal, auctioned via NRB), sold at a discount with no coupons — the safest money-market asset.
2. Government/Development Bonds: Long-term sovereign debt funding public projects; near-zero default risk.
3. Corporate Debentures: Company-issued bonds (secured or unsecured) paying fixed coupons; many trade on NEPSE with credit ratings.
4. Municipal/Local Bonds: Issued by local bodies for infrastructure, sometimes with tax advantages.
5. Preferred Shares (hybrid): Fixed preferential dividends with priority over ordinary shares, though junior to debentures; usually non-voting.
6. Bank Fixed Deposits & CIT Schemes: Retail fixed-income staples in Nepal — guaranteed interest over a chosen tenure, the default safe asset for households.

Meaning of an Investment Plan

An investment plan is a written, individualized roadmap outlining an investor’s financial goals, investment horizon, risk tolerance, liquidity constraints, and strategic asset allocation across asset classes.

Status of Investment Environment in Nepal

1. Regulatory Framework: SEBON serves as apex securities regulator; CDSC operates electronic clearing and C-ASBA settlement.
2. Market Structure: Overwhelmingly dominated by financial institutions (commercial banks, microfinance) and emerging hydropower companies.
3. Technological Progress: Shift to 100% online trading via TMS and Meroshare, broadening retail participation.
4. Current Challenges: High interest rate cyclicality, limited derivative hedging mechanisms, and concentrated market capitalization.

The Systematic Investment Process and Lifecycle Considerations

1. Steps in Investing: Investment Policy Statement (IPS) formulation, macro and industry analysis, asset valuation, portfolio construction, performance attribution.
2. Lifecycle Factors: Young accumulation phase (high-growth equities), consolidation phase (balanced growth/income), retirement spending phase (capital preservation, fixed-income debentures).

Four Investment Vehicles Available in Nepal

1. Common Stocks: Listed corporate equities traded continuously on NEPSE.
2. Mutual Funds: SEBON-regulated open-ended and closed-ended collective investment schemes.
3. Government Treasury Bills and Development Bonds: Issued by NRB for risk-free income.
4. Corporate Debentures: Fixed-coupon debt securities issued by commercial banks.

Role of Investment Bankers in Securities Offering

An investment banker (merchant banker) is a licensed financial intermediary that specializes in raising long-term capital for corporate and institutional clients.

Major Roles:

1. Origination & Structuring: Designing security structures, prospectus drafting, and legal compliance with SEBON.
2. Underwriting (Risk Bearing): Guaranteeing the purchase of unsold issue shares, insulating issuers from market failure.
3. Pricing & Valuation: Determining fair issue pricing and optimal subscription timing.
4. Distribution & Syndication: Mobilizing institutional and retail investor networks via C-ASBA.

Economic Cycle Phases, Asset Allocation, and Nepalese Investment Environment

1. Economic Cycle Phases:
   • Expansion: Strong GDP growth, rising profits. Strategy: Overweight equities and cyclicals.
   • Peak: High inflation, rising interest rates. Strategy: Shift to commodities and floating debt.
   • Contraction / Recession: Falling corporate profits. Strategy: Overweight long-term government bonds.
   • Trough: Low interest rates and nascent recovery. Strategy: Accumulate undervalued equities.
2. Investment Environment in Nepal:
   • Regulated by SEBON and NRB; computerized demat trading via CDSC and Meroshare.
   • High dominance of banking and hydropower sectors; limited institutional derivatives.

Individual Investors vs. Institutional Investors

1. Investment Scale & Resources: Individual investors invest personal wealth with limited research budgets, whereas institutional investors (mutual funds, CIT, EPF, life insurance firms) pool billions with dedicated research desks.
2. Horizon & Liquidity Needs: Individuals often face personal lifecycle liquidity constraints (education, home purchase); institutions have predictable actuarial liability horizons allowing long-term asset-liability matching.
3. Regulatory Scrutiny: Institutional investors are subject to stringent fiduciary mandates and statutory prudential investment guidelines.

Major Types of Investment Vehicles & Prevalence in Nepal

1. Major Global Investment Vehicles:
   • Equity Securities: Common stock and preferred stock.
   • Fixed Income Securities: Treasury bills, government development bonds, corporate debentures.
   • Collective Investment Schemes: Mutual funds (open-end & closed-end), ETFs.
   • Derivative Instruments: Options, futures, swaps.
   • Real Assets: Real estate, gold, commodities.
2. Most Common Vehicles in Nepalese Financial Market:
   • Common Stocks (Equities): Dominates over $80\%$ of secondary market turnover on NEPSE, driven by commercial banks, insurance, and hydropower IPOs via C-ASBA.
   • Mutual Funds: Growing popularity with dozens of closed-end and open-end schemes offering retail diversification.
   • Corporate Debentures & Bank Fixed Deposits: Preferred by risk-averse savers for guaranteed yields.