© 2013 Pearson Education, Inc. All rights reserved.15-1 Chapter 15 Mutual Funds: An Easy Way to...
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Transcript of © 2013 Pearson Education, Inc. All rights reserved.15-1 Chapter 15 Mutual Funds: An Easy Way to...
© 2013 Pearson Education, Inc. All rights reserved. 15-1
Chapter 15
Mutual Funds: An Easy Way to
Diversify
© 2013 Pearson Education, Inc. All rights reserved. 15-2
Learning Objectives
1. Weigh the advantages and disadvantages of investing in mutual funds.
2. Differentiate between types of mutual funds, ETFs, and investment trusts.
© 2013 Pearson Education, Inc. All rights reserved. 15-3
Learning Objectives
3. Calculate mutual fund returns.
4. Classify mutual funds according to objectives.
5. Select a mutual fund that’s right for you.
© 2013 Pearson Education, Inc. All rights reserved. 15-4
Introduction
• A way of holding investments such as stocks and bonds.
• Mutual fund—an investment that raises from investors, pools the money, and invests it in stocks, bonds, and other investments.
• Each investor owns a share of the fund proportionate to his/her investment.
© 2013 Pearson Education, Inc. All rights reserved. 15-5
Figure 15.1 Mutual Fund Growth
© 2013 Pearson Education, Inc. All rights reserved. 15-6
Why Invest in Mutual Funds?
• Advantages of mutual funds:– Professional management– Minimal transaction costs – Liquidity – Flexibility– Service– Avoidance of bad brokers
© 2013 Pearson Education, Inc. All rights reserved. 15-7
Why Invest in Mutual Funds?
• Disadvantages of mutual funds:– Lower-than-market performance – Costs– Risks– You can’t diversity away a market crash– Taxes
© 2013 Pearson Education, Inc. All rights reserved. 15-8
Mutual Fund-Amentals
• A mutual fund pools money from investors with similar financial goals.
• You are investing in a diversified portfolio that’s professionally managed according to set goals.
• Investment objectives are clearly stated.
© 2013 Pearson Education, Inc. All rights reserved. 15-9
Mutual Fund-Amentals
• As the value of the securities in the fund increases, the value of each mutual fund share also rises.
• Most pay dividends or interest to shareholders.
• Shareholders receive a capital gains distribution when the fund sells a security for more than originally paid.
© 2013 Pearson Education, Inc. All rights reserved. 15-10
Mutual Fund-Amentals
• Fund is set up as a corporation or trust.
• Shareholders elect a board of directors.
• Fund is run by a management company.
• Each individual fund hires an investment advisor to oversee the fund.
• Contracts with a custodian, a transfer agent, and an underwriter.
© 2013 Pearson Education, Inc. All rights reserved. 15-11
Investment Companies
• Invest the pooled money of a number of investors in return for a fee
• Open-End Investment Companies or Mutual Funds
– Net asset value (NAV)
© 2013 Pearson Education, Inc. All rights reserved. 15-12
Investment Companies
• Closed-End Investment Companies
• Unit Investment Trusts
• Real Estate Investment Trusts (REITs)
• Hedge Funds
© 2013 Pearson Education, Inc. All rights reserved. 15-13
Load Versus No-Load Funds
• Load—commission charged on a mutual fund
• Load fund—mutual fund on which a load is charged.
• Class A shares– front-end sales load
• Class B shares– back-end load
• Class C shares – pay coming and going
• No-load fund—doesn’t charge commission.
© 2013 Pearson Education, Inc. All rights reserved. 15-14
Management Fees and Expenses
• Expense ratio—the ratio of a mutual fund’s expenses to its total assets
• Invest in a fund with a low expense ratio
• Turnover rate—measures the level of the fund’s trading activity.
• Higher turnover rate, higher the fund’s expenses.
© 2013 Pearson Education, Inc. All rights reserved. 15-15
12b-1 Fees
• Annual fee, generally ranging from 0.25 to 1.00% of a fund’s assets, that the mutual fund charges its shareholders for marketing costs.
© 2013 Pearson Education, Inc. All rights reserved. 15-16
Calculating Mutual Fund Returns
• Return can be in the form of dividends, capital gains, or a change in net asset value.
• Automatic reinvestments result in increases in the NAV and number of shares.
• Calculating returns can help you spot funds that have consistent winners over time.
© 2013 Pearson Education, Inc. All rights reserved. 15-17
Money Market Mutual Funds
• Invest in Treasury bills, CDs, and other short-term investments, less than 30 days
• Carry no loads, trade at a constant $1 NAV, and have minimal expense ratios
• Tax-exempt money market fund
• Government securities money market mutual fund
© 2013 Pearson Education, Inc. All rights reserved. 15-18
Stock Mutual Funds
• Aggressive growth funds
• Small company growth funds
• Growth funds
• Growth-and-income funds
• Sector funds
• Index funds
• International funds
© 2013 Pearson Education, Inc. All rights reserved. 15-19
Balanced Mutual Funds
• Tries to balance objectives of long-term growth, income, and stability
• Hold both common stock and bonds and sometimes preferred stock
• Aimed at those needing income to live on and moderate stability in their investment
• Less volatile than stock mutual funds
© 2013 Pearson Education, Inc. All rights reserved. 15-20
Asset Allocation Funds
• Invest in stocks, bonds, and money market securities
• Move money between stocks and bonds to outperform the market
• Balanced funds try to practice market timing
© 2013 Pearson Education, Inc. All rights reserved. 15-21
Life Cycle and TargetRetirement Funds
• Mutual funds that try to tailor their holdings to the investor’s individual characteristics, such as age and risk.
• Target retirement funds are managed based on when you plan to retire.
© 2013 Pearson Education, Inc. All rights reserved. 15-22
Bond Funds
• Mutual funds that invest primarily in bonds
• Fluctuate in value with market interest rates
• Use for small amounts of money, to keep investments liquid
• Otherwise, use individual bonds where there is no professional management or fees
© 2013 Pearson Education, Inc. All rights reserved. 15-23
Bond Funds
• U.S. Government Bond Funds of GNMA Bond funds
• Municipal Bond Funds
• Corporate Bond Funds
• Bonds and their maturities:– Short-term (1-5 years)– Intermediate-term (5-10 years)– Long-term (10-30 years)
© 2013 Pearson Education, Inc. All rights reserved. 15-24
ETFs or Exchange Traded Funds
• A hybrid between a mutual fund and an individually traded stock or bond that trade on an exchange like individual securities do and can be bought and sold through the trading day.
© 2013 Pearson Education, Inc. All rights reserved. 15-25
ETFs or Exchange Traded Funds
• Charge lower annual expenses but still pay trading commissions.
• More tax-efficient than most mutual funds.
• Allow investors to stake out an investment position in a sector, industry, or country.
• Investors can make their move during the market’s trading hours.
© 2013 Pearson Education, Inc. All rights reserved. 15-26
Mutual Fund Services
• Automatic investment and withdrawal plans
• Automatic reinvestment of interest, dividends, and capital gains
• Wiring and funds express options
© 2013 Pearson Education, Inc. All rights reserved. 15-27
Mutual Fund Services
• Phone and internet switching
• Easy establishment of retirement plans
• Check writing
• Bookkeeping and help with taxes
© 2013 Pearson Education, Inc. All rights reserved. 15-28
Buying a Mutual Fund
• Step 1: Determining Your Goals
– Goals and time horizon
– Why are you investing?
– Tax-deferred investments?
– Risk tolerance
© 2013 Pearson Education, Inc. All rights reserved. 15-29
Buying a Mutual Fund
• Step 2: Meeting Your Objectives
– Look at (sub)classifications and objectives.
– Morningstar provides an investment style box to understand the investment style.
© 2013 Pearson Education, Inc. All rights reserved. 15-30
Buying a Mutual Fund
• Step 3: Evaluating the Fund
– Where to look—sources of information
– Mutual fund prospectus
– Internet screening to find the right mutual fund
© 2013 Pearson Education, Inc. All rights reserved. 15-31
Table 15.7 Web Sources for Screening Mutual Funds
© 2013 Pearson Education, Inc. All rights reserved. 15-32
Buying a Mutual Fund
• Step 4: Making the Purchase
– Buy direct – use phone or internet.
– Buy through a mutual fund “supermarket”– such as Fidelity or Charles Schwab.
© 2013 Pearson Education, Inc. All rights reserved. 15-33
Summary
• When you buy a mutual fund, you’re buying a share of a very large portfolio which goes up and down as the value of the mutual fund’s investments goes up and down.
• There are open-end and close-end investment companies, unit investment trusts and real estate investment trusts.
© 2013 Pearson Education, Inc. All rights reserved. 15-34
Summary
• Be very wary of mutual fund expenses—no-load mutual funds don’t charge commission.
• Funds are classified according to objective.
• When selecting a mutual fund, determine your goals, find funds that meet your objectives, and evaluate.
© 2013 Pearson Education, Inc. All rights reserved. 15-35
Table 15.4 Advantages and Disadvantages of ETFs
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Table 15.5 Mutual Fund Information on the Web
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Table 15.5 Mutual Fund Information on the Web (cont.)
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Checklist 15.1