Mutual Funds and Other Investment Companies
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Transcript of Mutual Funds and Other Investment Companies
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Mutual Funds and Other Investment
CompaniesCHAPTER 4
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Types of Investment Companies• Unit Investment Trusts
• Managed Investment Companies– Open-End (Mutual Funds)– Closed-End
• Other investment organizations– REITs– Hedge Funds
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Services of Investment Companies
• Administration & record keeping
• __________________________
• Professional management
• Divisibility
• Low transaction costs
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Net Asset Value
• NAV is basis for valuation of investment company shares:– Selling new shares– Redeeming existing shares
NAV equals:
Mkt Val of Assets - Liabilities
Shares Outstanding
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Investment Companies
• Investment companies are exempt from _________________________________.
• Investors pay income tax on income from investment companies.
• Funds with high turnover result in high taxes (low tax efficiency).
• Purchasing a mutual fund late in the year can result in taxes on earnings you did not receive.
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Unit Investment Trusts
• A unit investment trust invests in a fixed pool of securities for a predetermined period of time. At the end of that time, assets are sold and investors receive NAV.
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Open-End and Closed-End Funds: Key Differences
Shares Outstanding• Closed-end: no change unless new stock
is offered• Open-end: changes when new shares are
sold or old shares are redeemed Pricing• Open-end: Net Asset Value(NAV)• Closed-end: Price set in stock market, at
premium or discount to NAV
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Types of Investment Organizations
REIT: ______________________________
Equity REIT: invests in real estate
Mortgage REIT: invests in mortgages
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Types of Investment Organizations
Hedge Funds: little regulation
Limited to high net worth investors:
Net worth > $5 mil
Income > $200K
Annual fees are typically ______ of assets plus _______ of profit
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Mutual Fund Types
• Mutual Funds can be classified by the assets held:– Money Market – Fixed Income– Equity– Balance & Income – Index – Specialized Sector
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Investment Policies
Index funds (including most Exchange Traded Funds, or ETFs) are not actively managed; they simply match an index
Actively managed funds attempt to increase returns by market timing (asset allocation funds) and/or security selection
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Exchange Traded Funds• ETFs are closed-end funds
• Examples - SPDRs and Webs
• Potential advantages– Trade continuously – Lower taxes – Lower fees
• Potential disadvantages– Must pay brokerage commission – Price can differ from NAV
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Mutual Fund Types
• Equity fund by investment objective– Aggressive growth– Growth– Growth & income– Equity income
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Table 4.1 Classification of U.S. Mutual Funds
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How Funds Are Sold
• Directly marketed
• Sales force distributed
• Revenue sharing on sales force distributed funds– Potential conflicts of interest
• Financial supermarkets (Schwab’s OneSource)
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Potential Conflicts of Interest - Revenue Sharing
• Brokers put investors in funds that may not be the most appropriate
• Mutual funds could direct trading to higher cost brokers
• Revenue sharing is not illegal but should be disclosed to the investor
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Costs of Investing in Mutual Funds
• Fee Structure– Front-end load (up to 8.5%)– Back-end load (up to 6%)
• Operating expenses• 12 b-1 charges (up to 1% of assets
annually)– distribution costs paid by the fund– Alternative to a load
• Fees and performance
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Table 4.2 Impacts of Costs on Investment Performance
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First Look at Mutual Fund Performance
• Evidence shows that average mutual fund performance is generally less than broad market performance
• Evidence suggests that over certain horizons some persistence in positive performance– Evidence is not conclusive– Some inconsistencies
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Figure 4.3 Percentage of Funds Below Wilshire 5000
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Table 4.4 Consistency of Investment Results
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Sources of Information on Mutual Funds
• Morningstar (www.morningstar.com)
• Value Line Mutual Fund Survey
• Wiesenberger’s Investment Companies
• Yahoo (finance.yahoo.com/funds)
• Investment Company Institute
• Popular press (Business Week, Barron’s)
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How to Pick a Mutual Fund
• In comparing mutual funds, look for:– Matches your investment ________________
and _______________ tolerance– Good _____________________________ for
several years– Same portfolio manager– No ______________– Low ______________ (including 12b-1)– Tax efficiency (unless IRA or 401k)