7/29/2019 Chapter 15 Investing Through Mutual fUND
1/30
Chapter Fifteen
Investing Through
Mutual Funds
7/29/2019 Chapter 15 Investing Through Mutual fUND
2/30
Copyright Houghton Mifflin Company. All rights reserved. 15 - 2
Learning Objectives
1. Summarize two types of investment returns thatinvestors expect from mutual funds.
2. Classify mutual funds by investment objectives.3. Describe unique features of mutual funds that
make them attractive.
4. Distinguish among load and no-load mutual funds5. Explain how to avoid various charges and fees.
6. Explain how to evaluate mutual funds to invest in.
7/29/2019 Chapter 15 Investing Through Mutual fUND
3/30
Copyright Houghton Mifflin Company. All rights reserved. 15 - 3
Introduction
Investment Company corporation, trust,or partnership in which investors with similarfinancial goals pool their money to...
utilize professional management
diversify their investments
What are some large mutualfund investment companies?
7/29/2019 Chapter 15 Investing Through Mutual fUND
4/30
Copyright Houghton Mifflin Company. All rights reserved. 15 - 4
Introduction (Continued)
Mutual Fund an investment company that
combines the funds of investors who havepurchased shares of ownership
invests that money in a diversified portfolio of
stocks and bonds issued by other corporationsor governments.
Portfolio consists of a collection of securitiesand other investment alternatives.
7/29/2019 Chapter 15 Investing Through Mutual fUND
5/30
Copyright Houghton Mifflin Company. All rights reserved. 15 - 5
Types of Investment Companies
Closed-End Investment Companyissues a limited and fixed number ofshares and does not buy them back.
Shares trade like stock on stock exchanges
Open-End Mutual Fund always readyto sell new shares of ownership and buyback previously sold shares at the funds
current share price. More than 90% of all mutual funds
7/29/2019 Chapter 15 Investing Through Mutual fUND
6/30
Copyright Houghton Mifflin Company. All rights reserved. 15 - 6
Figure 15.1: How a Mutual Fund Works
7/29/2019 Chapter 15 Investing Through Mutual fUND
7/30Copyright Houghton Mifflin Company. All rights reserved. 15 - 7
Investors Expect Mutual Fund Dividendand Capital Gains Income
Mutual Fund Dividends income paid toinvestors out of profits earned by the mutualfund from the investments it has made.
Mutual funds dividends represent currentincome to mutual fund shareholders.
Capital Gains Distributions represent
net gains that a fund realizes when it sellssecurities held in the funds portfolio.
Recommended strategy:reinvestdividends andcapital gains into additional shares.
7/29/2019 Chapter 15 Investing Through Mutual fUND
8/30Copyright Houghton Mifflin Company. All rights reserved. 15 - 8
Investors Expect Capital GainsThrough Price Appreciation
Mutual fund investors also expect to profit whenthey sell their shares.
Net Asset Value (NAV) the per-share value of amutual fund.
Example: $52,500,000 value of fund
3,500,000 number of shares = $15 per share
UnrealizedCapital Gainsmerely paper profitson securities in the mutual fund.
When such gains are realized by the fund, they
are paid to investors as capital gains distributions.
7/29/2019 Chapter 15 Investing Through Mutual fUND
9/30Copyright Houghton Mifflin Company. All rights reserved. 15 - 9
Mutual Funds Have DifferentInvestment Objectives
Prospectusa mutual funds investmentobjectives must be stated in this.
Two Types:
Traditional prospectus (long) Profile prospectus (short)
7/29/2019 Chapter 15 Investing Through Mutual fUND
10/30Copyright Houghton Mifflin Company. All rights reserved. 15 - 10
Funds with an Income Objective
Bond Fund aims to earn current incomewithout incurring undue risk and to payordinary income dividend distributions.
Municipal Bond (Tax-Exempt) Fund
attempts to earn current tax-exempt incomeby investing solely in municipal bonds issuedby cities, states, and political subdivisions.
Mortgage Fund invests in mortgage-backed securities (e.g., Ginnie Maes)
7/29/2019 Chapter 15 Investing Through Mutual fUND
11/30Copyright Houghton Mifflin Company. All rights reserved. 15 - 11
Funds with a Balanced Objective
Balanced Funds invest in a mixtureof bonds, preferred stocks, and blue-chip common stocks.
Often 60% stocks, 40% bondsOften have the word balanced
in fund name
7/29/2019 Chapter 15 Investing Through Mutual fUND
12/30Copyright Houghton Mifflin Company. All rights reserved. 15 - 12
Funds with a Growth Objective
Growth Fund seeks long-term capitalappreciation by investing in the commonstocks of companies whose values are
expected to grow faster than usual.
Value Fund specializes in growthstocks whose prices appear to be low,
based on the logic that such stocks arecurrently out of favor and under-priced.
7/29/2019 Chapter 15 Investing Through Mutual fUND
13/30Copyright Houghton Mifflin Company. All rights reserved. 15 - 13
Funds with a Growth Objective(Continued)
Aggressive-Growth Fund (or Maximum CapitalGains Fund) seeks greatest long-term capitalappreciation and incurs greatest fluctuation in price.
Small-Cap Fund (or Small-Capitalization Fund)specializes in investing in smaller companies withmarket capitalization less than $1 billion.
Sector Fund heavily invests in common stocks
from one industry or one portion of the economy.
Precious Metals and Gold Funds seek long-term capital appreciation by investing in securitiesassociated with gold, silver, other precious metals.
7/29/2019 Chapter 15 Investing Through Mutual fUND
14/30Copyright Houghton Mifflin Company. All rights reserved. 15 - 14
Funds with a Growth Objective(Continued)
Global Fund invests primarily ingrowth stocks of companies listed onforeign and U.S. exchanges.
International Funds hold only foreignstocks, and some such funds focus on asingle country or geographic region.
7/29/2019 Chapter 15 Investing Through Mutual fUND
15/30Copyright Houghton Mifflin Company. All rights reserved. 15 - 15
Funds with a Growth and IncomeObjective
Growth and Income Fund objective is acombination of growth and income; investsin companies expected to show average or
better growth and pay steady or risingdividends.
Life-Cycle Funds create a diversified, all-
in-one (stocks, bonds, and cash assets)portfolio for those individuals who do notwish to actively manage their investments.
7/29/2019 Chapter 15 Investing Through Mutual fUND
16/30Copyright Houghton Mifflin Company. All rights reserved. 15 - 16
Other Types of Funds
Socially Conscious Funds funds that aimto invest in firms with good records on theenvironment, human rights, and public safety.
Screen for various negative factors (e.g.,smoking, alcohol, polluters, gambling)
Funds of Funds funds that earn a return
by investing in other mutual funds, therebyproviding extensive diversification.
7/29/2019 Chapter 15 Investing Through Mutual fUND
17/30Copyright Houghton Mifflin Company. All rights reserved. 15 - 17
Unique Features of Mutual Funds
Easy Purchase and Sale after opening anaccount, you can easily buy and sell shares
Easy Access- check Writing and wiring of funds
Automatic Investment Most funds allowinvestors to make periodic (monthly or quarterly)payments using money automatically transferredfrom a bank account
Automatic Reinvestment allows automatic useof dividend and capital gains distributions andinterest to buy additional shares of the fund withoutpaying any commissions.
7/29/2019 Chapter 15 Investing Through Mutual fUND
18/30Copyright Houghton Mifflin Company. All rights reserved. 15 - 18
Figure 15.2: The Wisdom of AutomaticReinvestment
7/29/2019 Chapter 15 Investing Through Mutual fUND
19/30Copyright Houghton Mifflin Company. All rights reserved. 15 - 19
Switching Privileges within a MutualFund Family
Switching Privilege (or Exchange Privilege)permits mutual fund shareholders to easily swapshares on a dollar-for-dollar basis for shares inanother mutual fund within a mutual fund family.
Exchange Fee a small charge, typically $5 or$10 per transaction, on transfers from one fund toanother.
Mutual Fund Family when the samemanagement company operates a variety of mutualfunds, each with its own investment objectives.
7/29/2019 Chapter 15 Investing Through Mutual fUND
20/30Copyright Houghton Mifflin Company. All rights reserved. 15 - 20
Withdrawal Plans
Withdrawal Plans (or Systematic WithdrawalPlans) available to shareholders who want aperiodic income from their mutual fund investments.
You can take your funds out of a mutual fund usingone of four methods:
By taking a set dollar amount each month.
By cashing in a set number of shares each month.
By taking the current income as cash.
By taking a portion of the asset growth.
7/29/2019 Chapter 15 Investing Through Mutual fUND
21/30Copyright Houghton Mifflin Company. All rights reserved. 15 - 21
Mutual Fund Expenses
Management Fee annual assessment topay advisors who operate the mutual fund.
12b-1 Fee (or Distribution Fee) annualcharge deducted by a fund company fromfunds assets to pay for advertising,
marketing, distribution, and promotion costs.
Ongoing expenses that increases fund costs
Avoid funds with this charge (see prospectus)
7/29/2019 Chapter 15 Investing Through Mutual fUND
22/30Copyright Houghton Mifflin Company. All rights reserved. 15 - 22
Disclosure of Fees
Standardized Expense Table illustrates in an
identical manner the effects of a mutual fundsfees and other expenses (hypothetical scenario)
Expense Ratio the combined percentage (offund assets) charged annually for expenses
including management fees, 12b-1 fees, and otherexpenses of the mutual fund company.
7/29/2019 Chapter 15 Investing Through Mutual fUND
23/30Copyright Houghton Mifflin Company. All rights reserved. 15 - 23
Whats Best: Load or No-Load?Low-Fee or High-Fee?
Up-front load charges are costly to investorsin the short run (less than five years),
Annual 12b-1 charges are very costly over
the long run (increase expense ratio)
Over five-year periods, lower-cost fundsalways deliver better returns than those
offered by higher-cost funds. Funds with no 12b-1 fees
Index funds
7/29/2019 Chapter 15 Investing Through Mutual fUND
24/30
Copyright Houghton Mifflin Company. All rights reserved. 15 - 24
Managed Funds or Index Funds?
Managed Funds professional managers areconstantly evaluating and choosing securitiesusing a specific investment approach.
Index Fund a mutual fund that buys and holdsstocks or bonds that constitute a market index.
Managers do not evaluate and select individualsecurities, but rather buy and hold all the stocks in a
particular index.
Examples of market indexes?
7/29/2019 Chapter 15 Investing Through Mutual fUND
25/30
Copyright Houghton Mifflin Company. All rights reserved. 15 - 25
How to Evaluate Mutual Funds inWhich to Invest
Match your investment philosophy andfinancial goals to a mutual funds
objectives
Read prospectuses and annual reportsAnnual Report a published summary of
the financial activities of a mutual fund
company for the year.
7/29/2019 Chapter 15 Investing Through Mutual fUND
26/30
Copyright Houghton Mifflin Company. All rights reserved. 15 - 26
How to Evaluate Mutual Funds inWhich to Invest (Continued)
Locate sources of comparative performancedata:
The Financial Press (Examples?)
Specialized mutual fund investmentpublications (e.g., Morningstar Mutual Funds)
Magazines that rate mutual funds
Internet sources on mutual funds
www.ici.org
www.morningstar.org
Fi 15 3 B l i Ri k d
7/29/2019 Chapter 15 Investing Through Mutual fUND
27/30
Copyright Houghton Mifflin Company. All rights reserved. 15 - 27
Figure 15.3: Balancing Risk andReturns on Mutual Funds
7/29/2019 Chapter 15 Investing Through Mutual fUND
28/30
Copyright Houghton Mifflin Company. All rights reserved. 15 - 28
Interpret Comparative PerformanceInformation Over Time
Consider a funds volatility a securitysor mutual funds tendency to rise or fall inprice over a period of time.
Consider a funds long- and short-termperformance
Consider a funds size Consider a funds performance in up and
down markets
7/29/2019 Chapter 15 Investing Through Mutual fUND
29/30
Copyright Houghton Mifflin Company. All rights reserved. 15 - 29
Golden Rules of Investing in MutualFunds
1. Invest only in no-load mutual funds that havea low expense ratio and do not assess a12(b)1 fee.
2. When choosing mutual funds, always matchyour investment philosophy and financialgoals to a mutual funds objectives
3. When investing for long-term goals, definitelysign up for automatic reinvestment of yourmutual fund dividends.
7/29/2019 Chapter 15 Investing Through Mutual fUND
30/30
Golden Rules of Investing in MutualFunds (Continued)
4. If you have a defined contribution retirementplan available at work, sign up for payrollwithholding to automatically forward a portionof each paycheck to a mutual fund.
5. Invest most of your serious money such asto pay for a childs education and retirement in one or more low-fee diversified index funds.
6. Dont jump in and out of the mutual fundmarket; instead, keep it simple by investing in afew funds and leave your money alone.