Chapter 4 Mutual Funds and Other Investment Companies 4.1 Investment Companies 4-2 Investment Companies  Financial intermediates that collect funds from individual investors and invest those funds in a wide range of securities or other assets.  Net Asset Value (NAV) • Used as a basis for valuation of investment company shares - Selling new shares - Redeeming existing shares • Calculation 4-3 gOutstandin Shares sLiabilitieAssets of ValueMarket NAV − = NAV calculation ABC Fund ($Millions except NAV) Market Value Securities + Cash & Receivables - Current Liabilities NAV Total ÷ # Fund Shares NAV $550.00 75.00 (20.00) $605.00 20.00 $ 30.25 4-4 Services of Investment Companies a. Administration & record keeping : Issue periodic status reports, keeping track of capital gains distributions, dividends, investments, and redemptions. b. Diversification and divisibility : By pooling their money, investment companies enable investors to hold fractional shares of many different securities. c. Professional management : Lower research costs, Portfolio managed according to specific objectives, and Professionals to find undervalued securities d. Lower transaction costs : Achieve substantial savings on brokerage fees and commissions. 4-5 4.2 Types of Investment Companies 4-6 Unit Investment Trusts (UITs) - Pools of money invested in a portfolio that is fixed for the life of the fund. - Unmanaged, fixed composition portfolios - Any interest and/or dividends are distributed immediately to trust certificate holders. 4-7 Managed Investment Companies - Managed, usually changing composition portfolio. - The fund's board of directors typically hires an investment advisor to select and manage the f und assets according to some specific goal(s) set by the board and any regulatory requirements . - The investment advisor usually creates the fund and selects the investments. Most funds are of this type. 4-8 Managed Investment Companies  Open-end funds : A fund that issues or redeems its shares at net asset value. - When investors in open-end funds wish to cash out their shares, they sell them back to the fund at NVA. - Commonly call mutual funds  Closed-end funds : A fund that do not redeem or issue shares. - Investors in closed-end funds who wish to cash out must sell their shares to other investors. - Shares of close-end funds are traded on organized exchanges and can be purchased through brokers just like other common stock. - Prices therefore can differ from NAV. 4-9 4-10 Managed Investment Companies   •   -   •  !"#$%& -  $% [...]... Mutual Funds  Investment Policies • Balanced funds - Hold both equities and fixed-income securities in stable proportion - Life-cycle funds: Asset mix ranges from aggressive to conservative  Static allocation funds maintain stable mix across stocks and bonds  Targeted maturity funds become more conservative as investor ages - Funds of funds: Mutual funds that primarily invest in other mutual funds 4. 3... trillion in 2011 4- 12 4. 3 Mutual Funds  The common name for an open-end investment company  The dominant investment company, 90% of investment company assets in the U.S  Assets under management in the U.S mutual fund industry were closely $12 trillion in early 2011 4- 13 4. 3 Mutual Funds  Investment Policies • Money market funds - Commercial paper, repurchase agreements, CDs • Equity funds - Invest... 12b-1 funds to use fund assets to pay for distribution and marketing costs such as advertising and promotional literature 4- 19 4. 4 Costs of Investing in Mutual Funds • Avoiding the Load - Choose different class of fund shares Notes: a b c Depending on size of investment Depending on years until holdings are sold Including service fee of 25% 4. 4 Costs of Investing in Mutual Funds • Fees and Mutual. .. of Funds Equity Funds Capital appreciation focus 2,912 24. 2% 3,037 World/international 1,660 13.8% 968 Total return 1,950 16.2% 762 6,522 54. 2% 4, 767 Corporate 301 2.5% 293 High yield 157 1.3% 206 84 0.7% 122 Government 203 1.7% 301 Strategic income 560 4. 7% 370 Single-state municipal 156 1.3% 45 1 National municipal 218 1.8% 2 24 Total bond funds 1,679 14. 0% 1,967 Total equity funds Bond Funds World 4. 4... or other securities • Specialized sector funds - Concentrate on particular industry • Bond funds - Specialize in fixed-income (bonds) sector 4. 3 Mutual Funds  Investment Policies • International funds - Global funds invest in securities worldwide - International funds invest outside U.S - Regional funds focus on particular part of world - Emerging market funds invest in developing nations 4. 3 Mutual. .. to buy an ETF 4- 23 Table 4. 3 ETF Sponsors and Products Figure 4. 2 Assets in ETFs Figure 4. 3 Investment Company Assets under Management, 2010 ($ Billion) 4. 7 First Look at Mutual Fund Performance • On average, mutual fund performance less than broad market performance 4- 27 1971 1972 1973 19 74 1975 1976 1977 1978 1979 1980 1981 1982 1983 19 84 1985 1986 1987 1988 1989 1990 1991 1992 1993 19 94 1995 1996... 2003 20 04 2005 2006 2007 2008 2009 2010 Rate of return (%) Figure 4. 4 Average Returns on Diversified Equity Funds vs Wilshire 5000 Ind ex 0.5 0 .4 0.3 0.2 0.1 0 -0.1 -0.2 -0.3 -0 .4 -0.5 Diversified equity funds Wilshire return 4. 8 Information on Mutual Funds  Sources of Information on Mutual Funds • • • • • • • Morningstar (www.morningstar.com) Fund prospectus Yahoo! The Wall Street Journal Investment. .. invest in other mutual funds 4. 3 Mutual Funds  Investment Policies • Asset allocation and flexible funds - Stocks and bonds—proportion varies according to market forecast • Index funds - Try to match performance of broad market index - Buy shares in securities included in particular index in proportion to security’s representation in index Table 4. 1 U.S Mutual Funds by Investment Classification Assets...Figure 4. 1 Closed-End Mutual Funds Fund NAV Mkt Price Prem/Disc % 52 Wk Return % Adams Express Company (ADX) 12.89 11.11 −13.81 26.13 Advent/Clay Enhcd G&I (LCM) 12.16 11.58 4. 77 23.52 BlackRock Equity Div (BDV) 10.65 10.03 −5.82 27.39 BlackRock Str Eq Div Achv (BDT) 11.8 10.68 −9 .49 26.17 Cohen & Steers CE Oppty (FOF) 14. 64 13 .46 −8.06 25.17 Cohen & Steers Dvd Mjrs (DVM) 14. 70 13.82 −5.99 49 .28 Eaton... trusts invest in mortgage and construction loans Hedge Funds - Similar to mutual funds, but not registered and not subject to SEC regulations - Available to institutional and high net worth investors - Usually require investors to agree to initial “lock-ups” - Can pursue investment strategies that are not allowed for mutual funds EX) Heavy use of derivatives, short sales, and leverage - Grew from about . Chapter 4 Mutual Funds and Other Investment Companies 4. 1 Investment Companies 4- 2 Investment Companies  Financial intermediates that collect funds from individual investors and invest. allocation funds maintain stable mix across stocks and bonds  Targeted maturity funds become more conservative as investor ages - Funds of funds: Mutual funds that primarily invest in other mutual. in other mutual funds 4. 3 Mutual Funds  Investment Policies • Asset allocation and flexible funds - Stocks and bonds—proportion varies according to market forecast • Index funds - Try to match