Learning Objectives _part 1 of 2_

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					Chapter 15
Learning Objectives
(part 1 of 3)
   Distinguish between the different types of
    investment companies.
   Explain the different types of fees and
    charges associated with investment
   Compute the Net Asset Value of a share.
   Explain the source of dividend and capital
    gain distributions.
Learning Objectives
(part 2 of 3)

   Analyze how various fees affect one’s
    rate of return
   Decide which of two funds to purchase.
   Compute the capital gain or loss on the
    sale of any mutual fund shares.
   Discuss various criteria for selecting a
    mutual fund
Learning Objectives
(part 3 of 3)

   Describe an index fund and explain its
   Analyze a prospectus.
   Distinguish between closed-end funds,
    unit investment trusts, and DPICs.
Advantages of investing in an
investment company
   Instant diversification (unless a sector
   Professional management
   Multitude of objectives and strategies to
    choose from
   Convenient for “small” portfolios
   Convenient for incremental investments
Types of Investment
   Investment Club
   Open-end (Mutual Funds)
   Closed-end
   REITs
   DPICs
   Unit investment trusts
Description of mutual funds
   Open-end investment company
       Shares can only be bought from the
        company as newly issued shares
       Shares can only be sold back to the
        company as redemptions
       Purchases and redemptions based on NAV,
        which is computed at the end of trading
        each day & all trades done after close
Net Asset Value
 Measures each investor’s claim on the
  investment company’s portfolio if the
  portfolio were liquidated at current
  prices and all liabilities paid off
 NAV =

(Market Value of Portfolio – Liabilities)
 # of invest. comp. shares outstanding
Cash distributions (1 of 2)
   For tax exempt status, investment
    companies must pass through most of
    their income to their shareholders
   Dividend distributions
       A distribution of dividends and/or interest
        received by securities held in the portfolio
       May be as rarely as annually, or as
        frequently as monthly
       Taxed as dividend income to the investor
Cash distributions (2 of 2)
   Capital Gain distribution
       At least once per year (usually in January)
       Sum up all the gains and losses from
        trades during the prior year (including any
        capital loss carry-forward
       If a net gain, distributed (and taxed as
        capital gains for the recipients)
       If a net loss, carried forward (no direct tax
        benefit to the investor)
Fees & Charges
   Load fee
       Front-end
       Back-end
   Management fee
   12b-1 charges
   Commissions (implicit in trading)
Impact of fees & Charges
   The average investment company
    always under performs the market due
    to the fees
   Management fee & 12b-1 fees a direct
    reduction to one’s return
   Impact of load fees depends on how
    long a fund is held
Deciding between two funds
   Should only compare funds with the
    same objectives
   Tradeoffs might include:
       Load vs. lower management fees
       Load vs. 12b-1 charges
       More growth prospects vs. higher income
Cost basis for mutual funds (1
of 2)
   If no reinvestment has occurred, then
    cost basis is what was paid for shares
   If any reinvestment made, or new
    shares purchased, then knowledge of
    cost basis requires good record
Cost basis for mutual funds (2
of 2)
       If sell only part of holdings, then must
        decide methodology to assign cost
        basis for shares sold
         Average cost (add up total paid for
          shares and divide by number of shares
         LIFO (Last in, first out): minimizes taxes
          if prices rising
         FIFO (First in, first out)
Criteria for selecting a mutual
fund (1 of 2)
   Select a fund whose investment
    objective matches your objective for
    this particular investment.
   Seek to minimize fees & charges
       No loads preferred over loads
       Avoid funds with 12b-1 fees
       Seek low management fees
       Seek low portfolio turnover ratios
Criteria for selecting a mutual
fund (2 of 2)
   Ignore funds which consistently
    underperform their peer group
   Do not be attracted to funds which tout
    top performance
       Funds always select the one time period
        which makes them look best
       Research shows past performance is of
        little value in predicting future performance
Index Funds (1 of 2)
       Linked to an index
         Could be a market index such as S&P 500
         Could be a sector index
       Although will never be a top performer
        within a category, will rarely be below
       Lower volatility than typical fund
Index Funds (2 of 2)
       Have most attractive attributes
         Usually no-loads
         Usually no 12b-1 fees
         Low management fees
         Low trading activity (so minimal
          commissions paid and few capital gain
   Must be given to all new investors (as
    purchases represent the issuance of
    new shares)
   Look for:
       Fund objectives
       Management fee
       Description of other fees (loads & 12b-1
Closed-end funds
   Fund usually created by company
    selling its shares in a single offering.
   After that, no new shares created and
    no redemptions allowed
   Market price rarely equals NAV
       Usually trades at a discount
       Some believe closed-end funds trading at
        substantial discounts are a great bargain
Unit Investment Trusts (1 of
   Can be a stock or bond fund
   Shares sold in a single offering (like
    closed end funds)
   Portfolio is pre-defined when shares are
   Little trading in shares (always plan to
    hold shares until trust extinguished)
Unit Investment Trusts (2 of
   Bond fund
       Bonds usually newly issued & usually
       Trust extinguished when bonds mature
   Stock fund
       Portfolio has an objective (e.g., dogs of the
       Trust has maturity date when portfolio
        liquidated and investors paid off
Dual Purpose Investment
   Issues two classes of shares
       Income share (analogous to preferred
        stock): has a promised yield
       Capital Appreciation Share (analogous to
        common stock)
   Income shares have a maturity date, at
    which time company dissolves or
    evolves to closed end fund

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