Mutual Funds


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  • Unit investment trust are mutual funds where people invest in a portfolio of mainly bonds and tax-free bonds. The annual returns are very predictable. A person holds onto the fund for its life. Fees are quite high (loads of 1 to 3%) and mgt fees Of 1.5 to 2.5%. These are high compared to traditional equity mutual funds and so little activity is needed throughout the year.
  • Mutual Funds

    1. 1. Chapter 13 Mutual Funds
    2. 2. What we know now? <ul><li>The higher the risk, the higher the return the investor should expect. </li></ul><ul><li>There are many sources of risk. </li></ul><ul><li>Portfolio diversification reduces risk but does not eliminate it. </li></ul><ul><li>Investing over long time periods reduces risk. </li></ul><ul><li>We cannot out-perform the market on a risk-adjusted basis because the market is informationally efficient. </li></ul>
    3. 3. So What Do We Do? <ul><li>Determine risk preference </li></ul><ul><li>Decide on asset allocation </li></ul><ul><li>Create a portfolio </li></ul><ul><li>Hold for the long term </li></ul>
    4. 4. Create portfolio through mutual funds Pool money from investors with similar goals
    5. 5. Mutual Fund <ul><li>Hire a management company to run the fund </li></ul><ul><li>Invests in numerous securities </li></ul><ul><li>Sends statements </li></ul>
    6. 6. What Really Happens <ul><li>We contact mutual fund to invest </li></ul><ul><li>We buy shares in the fund: </li></ul><ul><li>$2,000/$100 = 20 shares </li></ul>
    7. 7. Ways of Making Money With Mutual Funds <ul><li>Shares increase in value (appreciation) as stocks/bonds in mutual fund increase in value </li></ul><ul><li>Dividends or interest are reinvested in more shares </li></ul>
    8. 8. Why Invest in Mutual Funds? <ul><li>Liquidity </li></ul><ul><li>Minimal transaction costs </li></ul><ul><li>Convenience </li></ul><ul><li>Instant diversification </li></ul><ul><li>Level the playing field between professional and individual investors </li></ul><ul><li>Share administrative expenses </li></ul>
    9. 9. Disadvantages of Mutual Fund Investing <ul><li>Lower-than-market performance </li></ul><ul><li>Costs </li></ul>
    10. 10. The Costs of Mutual Funds <ul><li>Load funds -- sales commissions charged to the investor when purchasing fund shares </li></ul><ul><li>Management fees and expenses -- fees associated with the operation of the company </li></ul><ul><li>12b-1 fees -- fees charged to cover the fund’s cost of advertisement and marketing </li></ul>
    11. 11. Types of Funds <ul><li>Open-end </li></ul><ul><li>Closed-end </li></ul><ul><li>Unit investment trust (UIT) </li></ul><ul><li>Exchange traded fund (ETF) </li></ul><ul><li>Real-estate investment trust (REIT) </li></ul>
    12. 12. Objectives of Mutual Funds <ul><li>Money market mutual funds </li></ul><ul><li>Stock mutual funds </li></ul><ul><li>Bond funds </li></ul><ul><li>Asset allocation funds </li></ul>
    13. 13. Stock Mutual Funds <ul><li>Aggressive growth funds </li></ul><ul><li>Small-company growth funds </li></ul><ul><li>Growth funds </li></ul><ul><li>Growth-and-income funds </li></ul><ul><li>Sector funds </li></ul><ul><li>Index funds </li></ul><ul><li>International funds </li></ul><ul><li>Emerging markets funds </li></ul>
    14. 14. Facts About Index Funds <ul><li>Outperform 2/3 of actively managed funds </li></ul><ul><li>For 10 years ending 1998 index funds outperformed average manager by 3.5 percentage points </li></ul><ul><li>Last 30 years $10K investment: </li></ul><ul><ul><li>Index fund -- $311K (costs .2%) </li></ul></ul><ul><ul><li>Gen. equity fund -- $172K (trans. costs .75% to 1% of assets; admin costs 1.5%) </li></ul></ul>
    15. 15. Services Offered by Mutual Funds <ul><li>Automatic investment and withdrawal plans </li></ul><ul><li>Automatic reinvestment of interest, dividends, and capital gains </li></ul><ul><li>Wiring and funds express options </li></ul><ul><li>Phone/Internet switching </li></ul><ul><li>Easy establishment of retirement plans </li></ul><ul><li>Check writing </li></ul><ul><li>Bookkeeping and help with taxes </li></ul>
    16. 16. Buying a Mutual Fund <ul><li>Step 1 : Determine your risk preferences </li></ul><ul><li>Step 2 : Determine your asset allocation </li></ul><ul><li>Step 3 : Identify family of funds that meet your objectives </li></ul><ul><li>Step 4 : Evaluate the funds. </li></ul>
    17. 17. Steps 1 & 2: Determine Your Risk Preferences and Asset Allocation <ul><li>Determine your time horizon and risk tolerance </li></ul><ul><li>Determine your asset allocation preferences </li></ul>
    18. 18. Step 3: Identify Funds That Meet Your Objectives <ul><li>Look to third-party publications </li></ul><ul><ul><li>Go to Morningstar’s web site </li></ul></ul><ul><ul><li>Use screening tool to find smaller number of funds to study </li></ul></ul><ul><ul><li>Look for no-load, open-end, low-fee funds </li></ul></ul><ul><ul><li>Find a family of funds to manage your asset allocation </li></ul></ul>
    19. 19. Step 4: Evaluate the Fund <ul><li>Read the prospectus!!! </li></ul><ul><li>Compare returns, risk, turnover, and costs of funds with the same objective </li></ul><ul><li>Evaluate the fund’s long-term performance </li></ul><ul><li>Look at returns in both up and down markets </li></ul>
    20. 20. Sources of Information <ul><li>Wall Street Journal </li></ul><ul><li>Forbes or Business Week </li></ul><ul><li>Kiplinger’s Personal Finance </li></ul><ul><li>Smart Money or Consumer Reports </li></ul><ul><li>Wiesenberger Investment Companies Service </li></ul><ul><li>Morningstar Mutual Funds </li></ul>
    21. 21. Making the Purchase <ul><li>Buying through a broker </li></ul><ul><li>Buying directly from the mutual fund </li></ul>
    22. 22. Questions?