investment exam
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Bodie_Investments_12e_PPT_CH04.pptxChapter Four
Mutual Funds and Other Investment Companies
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Investment companies
Mutual funds
Unit investment trusts
Hedge funds
Closed-end funds
Mutual funds
Functions
Investment styles and policies
Costs of investing
Performance
Sources of information
Chapter Overview
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An investment company pools and invests the funds of individual investors in securities or other assets
Record keeping and administration
Diversification and divisibility
Professional management
Lower transaction costs
Investment Companies
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Investment companies pool assets of individual investors, but also need to divide claims to those assets among investors
Calculation of NAV
Net Asset Value (NAV)
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Unit investment trusts are pools of money invested in a portfolio that is fixed for the life of the fund
Unmanaged
Declined from $105 billion (1990) to $85 billion (2017)
Investment Companies: Unit Investment Trusts
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Investment Companies
Unit Investment Trusts
Managed Investment Companies
Other Investment Organizations
Open-End
Stand ready to redeem or issue shares at the NAV
Priced at Net Asset Value (NAV)
Closed-End
Do not redeem or issue shares
Shares outstanding constant; investors cash out by selling to new investors
Priced at premium or discount to NAV
Investment Companies: Managed Investment Companies
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In both open-end and closed-end funds, the board of directors hires a management company to manage the portfolio for an annual fee that typically ranges from .2% to 1.25% of assets.
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Investment Companies
Unit Investment Trusts
Managed Investment Companies
Other Investment Organizations
Open-end funds
Closed-end funds
Commingled funds
Partnerships of investors that pool funds
REITs
Similar to a closed-end fund
Equity versus mortgage trusts
Hedge funds
Vehicles that allow private investors to pool assets to be invested by a fund manager
Investment Companies: Other Investment Organizations
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Investment Companies
Unit Investment Trusts
Managed Investment Companies
Other Investment Organizations
Commingled Funds
REITs
Hedge Funds
Common name for open-end investment companies
Dominant investment company today
Accounts for 87% of investment company assets
Assets under management (early 2018)
U.S. – $18.7t
Non-U.S. – $25t
Mutual Funds
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Money market
Invest in money market securities such as commercial paper, repurchase agreements, or CDs
Equity
Invest primarily in stock
Sector
Concentrate on a particular industry or country
Bond
Specialize in the fixed-income sector
Mutual Funds: Investment Policies (1 of 2)
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Each mutual fund has a specified investment policy, which is described in the fund’s prospectus.
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International
Global, international, regional, and emerging market
Balanced
Designed to be candidates for an individual’s entire investment portfolio; hold both equities and fixed-income securities in relatively stable proportions
Asset allocation and flexible funds
Hold both stocks and bonds
Engaged in market timing; not designed to be low-risk
Index
Tries to match the performance of a broad market index
Mutual Funds: Investment Policies (2 of 2)
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International Funds:
Global funds invest in securities worldwide, including the United States
International funds invest in securities of firms located outside the United States
Regional funds concentrate on a particular part of the world
Emerging market funds invest in companies of developing nations
Balanced Funds:
Life-cycle funds are balanced funds in which the asset mix can range from aggressive (primarily marketed to younger investors) to conservative (directed at older investors)
Target-date funds gradually become more conservative as time passes and the date of a particular milestone, such as retirement, draws nearer.
Fund of funds: Mutual funds that primarily invest in shares of other mutual funds.
Asset Allocation: May dramatically vary the proportions allocated to each market in accord with the portfolio manager’s forecast of the relative performance of each sector
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U.S. Mutual Funds by Investment Classification
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How Funds Are Sold
Directly by the fund underwriter (i.e., direct-marketed funds)
Sold through the mail, various offices of the fund, over the phone, or over the Internet
Indirectly through brokers acting on behalf of the underwriter (i.e., sales-force distributed)
Broker or financial advisers receive a commission for selling shares
Potential conflict of interest
Financial supermarkets
Sell shares in funds of many complexes
Broker splits management fees with the mutual fund company
Mutual Funds: How Funds Are Sold
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Fee structure
Operating expenses
Front-end load
Back-end load
12 b-1 charges
Fees must be disclosed in the prospectus
Share classes with different fee combinations
Costs of Investing in Mutual Funds
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Fees for Various Classes
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Example
Initial NAV = $20
Income distributions of $0.15
Capital gain distributions of $0.05
Ending NAV = $20.10
Fees and Mutual Fund Returns
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Impacts of Costs on Investment Performance
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“Pass-through status” under the U.S. tax code
Taxes are paid only by the investor, not by the fund itself
Disadvantage is that fund investors do not control the timing of the sales of securities from the portfolio, reducing their ability to engage in tax management
High portfolio turnover rate can be particularly “tax inefficient”
Average turnover dropped to 30% in 2017
Taxation of Mutual Fund Income
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ETFs are offshoots of mutual funds that allow investors to trade index portfolios just as they do shares of stock
Examples: “spiders,” “diamonds,” “cubes,” and “WEBS”
Potential advantages
Trade continuously like stocks
Can be sold short or purchased on margin
Cheaper than mutual funds
Tax efficient
Potential disadvantages
Prices can depart from NAV
Must be purchased from a broker (for a fee)
Exchange Traded Funds (ETFs)
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Growth of U.S. ETFs Over Time
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Investment Company Assets Under Management, 2018 ($ billion)
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Performance of actively managed funds
Wilshire 5000 index used as a benchmark for the performance of equity fund managers
Wilshire 5000 outperformed average return on diversified equity funds in 29 of the 48 years from 1971 to 2018
Mutual Fund Investment Performance
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Actively Managed Equity Funds versus Wilshire 5000 Index
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Prospectus
Statement of Investment Objectives
Describes investment objectives and policies
Description of fund’s investment adviser and portfolio manager
Presents fees and costs
Statement of Additional Information (SAI)
Fund’s annual report
Information on Mutual Funds (1 of 2)
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“Encyclopedias” of mutual fund information
Directory of Mutual Funds
Information on Mutual Funds (2 of 2)
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Market Value of Assets - LiabilitiesShares Outstanding
