Student Learning Objectives Template Part 1: Standards and ...
Chapter 15 Learning Objectives (part 1 of 3)
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Transcript of Chapter 15 Learning Objectives (part 1 of 3)
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 companies.
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 advantages.
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 fund) Professional management Multitude of objectives and
strategies to choose from Convenient for “small” portfolios Convenient for incremental
investments
Types of Investment Companies 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 keeping
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 held)
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 average
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 distributions)
Prospectus 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 charges)
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 2) Can be a stock or bond fund Shares sold in a single offering (like
closed end funds) Portfolio is pre-defined when shares
are sold Little trading in shares (always plan
to hold shares until trust extinguished)
Unit Investment Trusts (2 of 2) Bond fund
Bonds usually newly issued & usually municipals
Trust extinguished when bonds mature Stock fund
Portfolio has an objective (e.g., dogs of the Dow)
Trust has maturity date when portfolio liquidated and investors paid off
Dual Purpose Investment Companies 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