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Formula Plans

Group 4

In simple terms...

Intro!

Formula plans are certain predefined rules and regulations deciding when and how much

assets an individual can purchase or sell!

In other words, the formula plan provides the basic rules and regulations for the purchase

and sale of securities.

Here's why!

Formula plans help an investor to make the best possible use of fluctuations in the financial market !!

With the help of formula plan an investor can divide his funds

into defense portfolio and aggressive and easily transfer from one portfolio to

other.

But what is Defense and Aggressive Portfolio?

But why do I need to use formula Plans?

Aggresive Portfolio

It consists of funds that appreciate quickly and guarantee maximum returns to the investor.

In simple terms,

High risk - High Return!

Defence and Aggressive Portfolio

Defensive Portfolio

It consists of securities that do not fluctuate much and remain

constant over a period of time.

The focus here is GROWTH!

Assumptions

The First Assumption

Certain percentage of the investor’s fund is allocated to fixed income

securities and common stocks.

The Second Assumption

If the market moves higher, the proportion of stocks in the portfolio

may either decline or remain constant.

The Third Assumption

The stocks are bought and sold whenever there is a significant change in

the price.

The Fourth Assumption

The investor should strictly follow the formula plan once he

chooses it.

Advantages

Higher Profits - Investor can earn higher profits

Rules & Regulations - Basic rules and regulations for the purchase and sale of securities are provided.

Overcome Human Emotion - The rules and regulations are rigid and help to overcome human emotion.

Objective Oriented- A course of action is formulated according to the investor’s objective.

Provides Control - It controls the buying and selling of securities by the investor.

Decision Making - It is useful for taking decision on the timing of investments.

ADVANTAGES

Disadvantages

The formula plan does

not help the selection of the security.

It is strict and not

flexible with the inherent problem of adjustment.

The formula plan should

be applied for long periods, otherwise the transaction cost may be high.

Even if the investors

adopts the formula plan, the investors need to perform forecasting which might be tedious.

Types of formula Plans

Types

Advantages

How does it work?

Reduces the average cost per share

Takes away the pressure of timing the stock purchase from investor

Advantages and Disadvantages

Disadvantages

Extra transaction cost

Does not indicate when to sell

No indication of interval between purchases

Stocks with good fundamentals and long-term growth prospects should be selected.

Those Stocks will provide the maximum benefit.

The investor should make a regular commitment to buy shares.

They should buy those shares regardless of the prices, short term performance.

Rupee Cost Averaging

Advantages

How does it work?

Purchases and Sales are determined automatically

Helps in higher profit

Advantages and Disadvantages

Disadvantages

Investor should be rational in buying and selling

Plan forces investors to sell when prices rise and sell when prices fall

The portfolio is divided into two parts, one aggressive part and another conservative part

When the price of the stock increases the investor sells sufficient amount to return to the original amount of investment

By keeping the value of aggressive portfolio constant, reminder is invested in conservative portfolio

Constant Rupee Value

Advantages

Helpes the investor counter adjust their portfolio cyclically depending on the market

How does it work?

Advantages and Disadvantages

Disadvantages

The money might be shifted from stock portion to bond portion which can cost growth

Attempt to maintain a constant ratio between aggressive

and conservative portfolios.

The ratio is fixed by the investor. The investor’s

attitude towards risk and return plays a major role in fixing the ratio.

The

conservative investor may like to have more of bond the aggressive investor,

more of stocks.

Once the ratio is fixed, it is maintained as the market moves

up and down.

Constant Ration Plan

Advantages

How does it work?

Automatically the investor tends to correct his portfolio

With accurate forecast the variable ratio plan takes greater

advantage of price fluctuations

Advantages and Disadvantages

Disadvantages

The investor has to

construct the appropriate zones and trend for alterations of the proportions.

If the zones are too small frequent changes have to be done and

it would limit portfolio performance

According to this plan, at varying levels of market prices, the

proportions of the stocks and bonds change.

Whenever the price of the stock

increases, the stocks are sold and new ratio is adopted by increasing the

proportion of defensive portfolio.

To adopt this plan, the investor is required

to estimate a long term trend in the price of the stocks.

Forecasting is very

essential to this plan.

Variable Ratio Plans

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