The main function of a commercial bank is to accept deposits. It is a institution which do business with the money provided by the depositors. The bank makes investment of such funds in different sectors of the economy and thus a bank should take into consideration the main factors while investing its funds. The following principles followed as regard the investment policy of a commercial bank :
1. Profitability – Bank is a profit earning institution. Thus, it makes investment of its funds in the securities which are profitable to the bank. Thus, the principles of profitability is an important consideration for investment of a bank.
2. Safety – The bank funds are generally the amount of savings done by general public which are deposited in the different accounts. In this way bank are trustee of a public money. So, it is necessary the bank should be in position to repay deposit whenever demanded by the depositors. It is the responsibility of the bank to provide safety of the fund generated from public money. The bank thus make investment of funds in those securities which are safe and secured. In this connection the banks make investment in the securities. Thus, the principle of safety is a important consideration while making investment of funds by commercial bank.
3. Diversification – This is an important principle of investment policy of commercial bank. According to this principle, the bank should diversify the risks involve in investment of fund by making investment in different types of securities of different companies. This principle is based on the logic that “ All eggs should not be kept in the same basket.” If the bank invests its fund in different securities of different companies the risks of loss involved in one securities may be covered up by the profits earn from investment in other securities. When investment is made according to this policy there will be low risk in investment of fund by the bank.
4. Liquidity – Another important consideration in investment of funds by the bank is that investment should be made in such securities which can be easily converted into cash. So that depositors easily withdraw their money whenever need of money arise. Thus, liquidity is an important consideration by banks while investing its funds.
5. Stability – A commercial bank make investment in share, debenture and other securities issued by companies, financial institutions and government. The prices of these securities fluctuates. When there is greater fluctuations of prices of securities in the market there will be grater risk involved in such investment. Thus the bank considers the stability in the prices of securities as important factors while making investment of its funds.
6. Productivity of investment – Bank should invest its funds in such a company which is engaged in manufacturing business. It is necessary from safety point of view.
In this way a commercial bank takes into the consideration the above mentioned factors while investing its funds. Besides, the above mentioned principles or consideration the commercial bank also takes into account some other factors such as national interest, transfer of securities, tax concession and government policy while making investment of its funds.