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ch03.ppt ch03.ppt Presentation Transcript

  • Chapter 3 Investment Funds
    • Distinguish between direct and indirect investing.
    • Define open-end and closed-end investment funds.
    • State the major types of mutual funds and give their features.
    • Define exchange-traded funds (ETFs).
    • inguish between direct and indirect investing.
    • Define open-end and closed-end investment funds.
    • State the major types of mutual funds and give their features.
    • Define exchange-traded funds (ETFs).
    Learning objectives
    • Refers to buying and selling the shares of intermediaries that hold a portfolio of securities
      • Shares are ownership interest in the underlying portfolio
      • Shareholders are entitled to portfolio income
      • Shareholders also pay expenses efers to buying and selling the shares of intermediaries that hold a portfolio of securities
      • Shares are ownership interest in the underlying portfolio
      • Shareholders are entitled to portfolio income
      • Shareholders also pay expenses
    Indirect Investing
    • Financial company or trust fund that sells shares to the public and uses the proceeds to invest in marketable securities
      • Acts as conduit for distribution of dividends, interest, and realized gains
      • Offers the benefits of diversification
      • Offers professional management
    • Offers professional management
    Investment Fund
    • Unit Investment Trust : an unmanaged, fixed-income security portfolio put together by a sponsor and handled by an independent trustee
      • Passive investments designed to be bought and held with capital preservation as a major objective
      • Currently represent a very small part of total investment company assets Unit Investment Trust : an unmanaged, fixed-income security portfolio put together by a sponsor and handled by an independent trustee
      • Passive investments designed to be bought and held with capital preservation as a major objective
      • Currently represent a very small part of total investment company assets
    Fund Types
    • Closed-end investment fund : No additional shares sold after initial public offering
      • Share prices determined and traded in a secondary market
      • Price may not equal Net Asset Value of the shares
        • Net Asset Value (NAV) : Total market value of the security portfolio divided by total shares
    Fund Types
    • Open-end investment fund : Shares continue to be sold to the public at NAV after initial sale that capitalizes the company
      • Shares may be sold back (“redeemed”) to the company at NAV
      • Capitalization constantly changes
      • Popularly called mutual funds
    Fund Types
    • Money Market Funds
      • Objectives of income and liquidity
      • Short-term money market instruments
      • Low risk and high liquidity
    • (a) Mortgage Funds
      • Investment terms may be  5 years
      • Riskier than money market (more interest rate risk), but less risky than bond funds (shorter maturities)
    • (b) Bond Funds
      • Objectives of income and safety
      • Subject to capital gains/losses due to interest rate risk
    Types of Mutual Funds
    • (a) Balanced Funds
      • Objectives of safety, income and capital appreciation
      • Min./max. rules apply for percentage invested in each asset class.
    • (b) Asset Allocation Funds
      • Similar objectives as balanced funds, but typically not restricted by asset class percentage rules
    • Equity/Common Stock Funds
      • Objective of capital gains
      • Bulk of assets are in equity, but other assets held for liquidity, income and diversification purposes
      • May vary greatly in degree of risk and growth objectives
    Types of Mutual Funds
    • Growth Funds
      • Tend to invest in small-cap stocks, i.e. small companies with growth potential
      • Riskier than equity funds (small firms pay no dividends)
    • Specialty Funds
      • Objective of superior capital gains (through minimal diversification)
      • Tend to focus on one industry, market, or segment
      • International/Global Funds, for example, invest in foreign securities (and carry the risk of foreign exchange exposure)
    Types of Mutual Funds
    • (a) Real Estate Funds
      • Invest in income-generating properties for long-term growth and capital gains
      • Portfolio valuation is based on infrequent external appraisal
      • Less liquid than other funds – investors may need to give advance notice when selling
    • (b) Ethical Funds
      • Relatively new type of fund
      • Investments are guided by moral criteria (e.g., not investing in tobacco-related firms)
    Types of Mutual Funds
    • Index Funds
      • Objective is to mirror the performance of a market index (e.g., S&P/TSX 60)
      • Generally lower management fees than other funds.
    • Dividend Funds
      • Objective of tax reduction through favourable treatment of dividend
      • Inappropriate for RRSPs or RRIFs
      • Price changes are driven by interest rates and market trends
    Types of Mutual Funds
    • ranked from lowest risk/return to highest risk/return as follows:
    • Money market
    • Mortgage
    • Bond
    • Balanced
    • Dividend
    • Equity
    • Real estate
    • Specialty
    • http://finance.yahoo.com/funds
    Types of Mutual Funds
    • Money market mutual funds invest in a portfolio of money market securities
      • Treasury bills
      • Commercial paper
      • Short-term government bonds
      • Low risk
      • Not insured by the federal government
    Mutual Fund Categories
    • Equity, bond, and income funds invest in portfolios of securities consistent with the objectives of the particular fund
      • Objectives set by the fund’s board
      • Disclosure of objectives to investors through a prospectus
    Mutual Fund Categories
    • Most mutual fund assets are in equity funds rather than bond or income funds
    • Most equity funds are either:
      • Value funds, which invest in undervalued stocks as determined by fundamental financial analysis
      • Growth funds, which invest in stocks of firms expected to show future rapid earnings growth
    Equity Funds
    • Closed-End Funds
      • NAV > market price, selling at a discount
      • NAV < market price, selling at a premium
      • If the value of the portfolio remains unchanged, an investor can gain or lose if the discount narrows or widens over time
      • Trade at premiums and discounts across time, and variance is great
    Equity Funds
    • Units of these trusts hold shares of firms in market indices in proportion to their weights in the index
    • Differences from traditional mutual funds: http://finance.yahoo.com/etf
      • Traded throughout the day on exchanges
      • Lower management fees (e.g., 0.08% to 0.25% versus 2.5% average for active equity funds versus 0.75% average for Index funds)
      • Lower portfolio turnover – reduces capital gains income and taxes payable
      • Permit short-selling
      • May be purchased on margin
    Exchange-Traded Funds (ETFs)
    • I-60s
      • Represent units in the S&P/TSX 60 Index
      • Trade on the TSX (ticker: XIU).; units are valued at 1/10 th the value of the S&P/TSX 60 Index; for example, if index is valued at 450, each unit is valued at $45
      • Dividends are paid every quarter; MER is 0.17%
    • DJ40s
      • Represent units in the Dow Jones Canada Index Participation Fund, which hold stocks that mimic those of the Dow 40 Index; MER is 0.08%
    Canadian-Based ETFs
    • TD S&P/TSX Index Fund
      • The S&P/TSX Composite Index is the underlying index; MER is 0.25%
      • T here are now a growing number of small-cap, mid-cap, industry-based, style-based, and bond ETFs available
    • T here are now a growing number of small-cap, mid-cap, industry-based, style-based, and bond ETFs available
    Canadian-Based ETFs
    • ETFs
      • Trade all day on exchanges, can be bought on margin, and can be shorted
      • Currently passive in nature
      • Can be traded at discount or premiums.
      • Offer an important advantage over funds with regard to flexibility on taxes
    • Mutual Funds
      • Bought and sold at the end of the trading day when the NAV is calculated
      • Most are actively managed
      • Trade at NAV
      • Mutual fund mangers may have to sell shares to pay those who want to leave the fund, thereby generating capital gains
    Differences between ETFs and Mutual Funds
    • Segregated funds
      • Provide death benefits
      • Must guarantee a minimum percentage (75% is required, 100% is usually offered) of investor’s payments will be returned at fund maturity (or at death of owner)
      • Structured to prevent fund assets from being seized by creditors if investor declares bankruptcy
      • Upon owner’s death, assets may be transferred to beneficiaries without being subject to probate fees
    Other Funds
    • Labour Sponsored Venture Capital Corporations (LSVCCs)
      • No 10% maximum ownership restriction
      • Restrictions on transferability and redemption
      • Valuation may not be based exclusively on market prices
      • Tax advantages – federal & provincial tax credits offered
    Other Funds
    • Reported on a regular basis (usually daily) in the popular press
    • Measured over a given time period as a percentage of initial investment
      • Total returns include reinvested dividends and capital gains
      • Average annual return reflects the mean compound growth rate of investment over a given time period
    Performance
    • Investors relate the performance to some benchmark to judge relative performance
    • An important issue is expenses: funds with low MERs provide better returns in the long run
    • Mutual fund ratings: best known rating system is provided by Morningstar
    Performance
    • Some mutual funds specialize in international securities
      • Canadian investors can participate in emerging market economies
      • International diversification
      • International funds or global funds emphasize international stocks
      • Single-country funds concentrate assets
        • Actively or passively managed
    International Funds
    • Mutual fund “supermarkets”
      • Various mutual fund families can be purchased through a single source
      • Brokerage account may provide access
      • “ Supermarket” managers earn fee
    • On-line investment services
      • Internet used to provide mutual fund information and to make transactions
    New Directions in Funds