Costs are the biggest problem with mutual funds. These costs eat into your return,
and they are the main reason why the majority of funds end up with sub-par
performance.
What's even more disturbing is the way the fund industry hides costs through a layer
of financial complexity and jargon. Some critics of the industry say that mutual fund
companies get away with the fees they charge only because the average investor
does not understand what he/she is paying for.
Fees can be broken down into two categories:
1. Ongoing yearly fees to keep you invested in the fund.
2. Transaction fees paid when you buy or sell shares in a fund (loads).
Tuesday, December 15, 2009
International Funds
An international fund (or foreign fund) invests only outside your home country.
Global funds invest anywhere around the world, including your home country.
It's tough to classify these funds as either more risky or safer. On the one hand they
tend to be more volatile and have unique country and/or political risks. But, on the
flip side, they can, as part of a well-balanced portfolio, actually reduce risk by
increasing diversification. Although the world's economies are becoming more inter-
related, it is likely that another economy somewhere is outperforming the economy
of your home country.
Global funds invest anywhere around the world, including your home country.
It's tough to classify these funds as either more risky or safer. On the one hand they
tend to be more volatile and have unique country and/or political risks. But, on the
flip side, they can, as part of a well-balanced portfolio, actually reduce risk by
increasing diversification. Although the world's economies are becoming more inter-
related, it is likely that another economy somewhere is outperforming the economy
of your home country.
Balanced Funds
The objective of these funds is to provide a "balanced" mixture of safety, income,
and capital appreciation. The strategy of balanced funds is to invest in a combination
of fixed-income and equities. A typical balanced fund might have a weighting of 60%
equity and 40% fixed-income. The weighting might also be restricted to a specified
maximum or minimum for each asset class.
A similar type of fund is known as an asset allocation fund. Objectives are similar to
those of a balanced fund, but these kinds of funds typically do not have to hold a
specified percentage of any asset class. The portfolio manager is therefore given
freedom to switch the ratio of asset classes as the economy moves through the
business cycle.
and capital appreciation. The strategy of balanced funds is to invest in a combination
of fixed-income and equities. A typical balanced fund might have a weighting of 60%
equity and 40% fixed-income. The weighting might also be restricted to a specified
maximum or minimum for each asset class.
A similar type of fund is known as an asset allocation fund. Objectives are similar to
those of a balanced fund, but these kinds of funds typically do not have to hold a
specified percentage of any asset class. The portfolio manager is therefore given
freedom to switch the ratio of asset classes as the economy moves through the
business cycle.
bond funds
Income funds are named appropriately: their purpose is to provide current income
on a steady basis. When referring to mutual funds, the terms "fixed-income,"
"bond," and "income" are synonymous. These terms denote funds that invest
primarily in government and corporate debt. While fund holdings may appreciate in
value, the primary objective of these funds is to provide a steady cash flow to
investors. As such, the audience for these funds consists of conservative investors
and retirees.
Bond funds are likely to pay higher returns than certificates of deposit and money
market investments, but bond funds aren't without risk. Because there are many
different types of bonds, bond funds can vary dramatically depending on where they
invest. For example, a fund specializing in high-yield junk bonds is much more risky
than a fund that invests in government securities; also, nearly all bond funds are
subject to interest rate risk, which means that if rates go up the value of the fund
goes down.
on a steady basis. When referring to mutual funds, the terms "fixed-income,"
"bond," and "income" are synonymous. These terms denote funds that invest
primarily in government and corporate debt. While fund holdings may appreciate in
value, the primary objective of these funds is to provide a steady cash flow to
investors. As such, the audience for these funds consists of conservative investors
and retirees.
Bond funds are likely to pay higher returns than certificates of deposit and money
market investments, but bond funds aren't without risk. Because there are many
different types of bonds, bond funds can vary dramatically depending on where they
invest. For example, a fund specializing in high-yield junk bonds is much more risky
than a fund that invests in government securities; also, nearly all bond funds are
subject to interest rate risk, which means that if rates go up the value of the fund
goes down.
Different Types of mutual funds
No matter what type of investor you are there is bound to be a mutual fund that fits
your style. According to the last count there are over 10,000 mutual funds in North
America! That means there are more mutual funds than stocks.
It's important to understand that each mutual fund has different risks and rewards.
In general, the higher the potential return, the higher the risk of loss. Although some funds are less risky than others, all funds have some level of risk--it's never possible to diversify away all risk. This is a fact for all investments. (You can learn more about this in our financial concepts tutorial.)
Each fund has a predetermined investment objective that tailors the fund's assets,
regions of investments, and investment strategies. At the fundamental level, there
are three varieties of mutual funds:
1) Equity funds (stocks)
2) Fixed-income funds (bonds)
3) Money market funds
All mutual funds are variations of these three asset classes. For example, while
equity funds that invest in fast-growing companies are known as growth funds,
equity funds that invest only in companies of the same sector or region are known as
specialty funds.
Let's go over the many different flavors of funds. We'll start with the safest and then work through to the more risky.
your style. According to the last count there are over 10,000 mutual funds in North
America! That means there are more mutual funds than stocks.
It's important to understand that each mutual fund has different risks and rewards.
In general, the higher the potential return, the higher the risk of loss. Although some funds are less risky than others, all funds have some level of risk--it's never possible to diversify away all risk. This is a fact for all investments. (You can learn more about this in our financial concepts tutorial.)
Each fund has a predetermined investment objective that tailors the fund's assets,
regions of investments, and investment strategies. At the fundamental level, there
are three varieties of mutual funds:
1) Equity funds (stocks)
2) Fixed-income funds (bonds)
3) Money market funds
All mutual funds are variations of these three asset classes. For example, while
equity funds that invest in fast-growing companies are known as growth funds,
equity funds that invest only in companies of the same sector or region are known as
specialty funds.
Let's go over the many different flavors of funds. We'll start with the safest and then work through to the more risky.
Wednesday, December 9, 2009
Unit Investment Trusts
Unit Investment Trusts are pools of money invested in a portfolio that is fixed for the life of the fund. To form a unit investment trust, a sponsor, typically a brokerage firm buys a portfolio of securities which are deposited into a trust. It then sells to the public shares, or "units," in the trust, called redeemable trust certificates. All income and payments of principal from the portfolio are paid out by the fund‘s trustees (a bank or trust company) to the shareholders. Most unit trusts hold fixed-income securities and expire at their maturity, which may be as short as a few months if the trust invests in short-term securities like money market instruments, or as long as many years if the trust holds long-term assets like fixed-income securities. The fixed life of fixed-income securities makes them a good fit for fixed-life unit investment trusts. In fact, about 90% of all unit investment trusts are invested in fixed-income portfolios, and a bout 90% of fixed-income unit investment trusts are invested in tax-exempt debt.
There is little active management of a unit investment trust because once established, the portfolio composition is fixed; hence these trusts are referred to as unmanaged. Trusts tend to invest in relatively uniform types of assets; for example, one trust may invest in municipal bonds, another in corporate bonds. The uniformity of the portfolio is consistent with the lack of active management. The trusts provide investors a vehicle to purchase a pool of one particular type of asset, which can be included in an overall portfolio as desired. The lack of active management of the portfolio implies that management fees can be lower than those of managed funds.
Sponsors of unit investment trusts earn their profit by selling shares in the trust at a premium to the cost of acquiring the underlying assets. For example, a trust that has purchased $5 million of assets may sell 5000 shares to the public at a price of 1030 per share, which (assuming the trust has no liabilities) represents a 3% premium over the net asset value of the securities held by the trust. the 3% premium is the trustee‘s fee for establishing the trust.
Investors who wish to liquidate their holdings of a unit investment trust may sell the shares back to the trustee for net asset value. The trustees can either sell enough securities from the asset portfolio to obtain the cash necessary to pay the investor, or they may instead sell the shares to a new investor (again at a slight premium to net asset value
There is little active management of a unit investment trust because once established, the portfolio composition is fixed; hence these trusts are referred to as unmanaged. Trusts tend to invest in relatively uniform types of assets; for example, one trust may invest in municipal bonds, another in corporate bonds. The uniformity of the portfolio is consistent with the lack of active management. The trusts provide investors a vehicle to purchase a pool of one particular type of asset, which can be included in an overall portfolio as desired. The lack of active management of the portfolio implies that management fees can be lower than those of managed funds.
Sponsors of unit investment trusts earn their profit by selling shares in the trust at a premium to the cost of acquiring the underlying assets. For example, a trust that has purchased $5 million of assets may sell 5000 shares to the public at a price of 1030 per share, which (assuming the trust has no liabilities) represents a 3% premium over the net asset value of the securities held by the trust. the 3% premium is the trustee‘s fee for establishing the trust.
Investors who wish to liquidate their holdings of a unit investment trust may sell the shares back to the trustee for net asset value. The trustees can either sell enough securities from the asset portfolio to obtain the cash necessary to pay the investor, or they may instead sell the shares to a new investor (again at a slight premium to net asset value
Monday, December 7, 2009
Types of investment companies
In the United States, investment companies are classified by the investment company act of 1940 as either unit investment trusts or managed investment companies. The portfolios of unit investment trusts are essentially fixed and thus are called "unmanaged." in contrast, managed companies are so named because securities in their investment portfolios continually are bought and sold: the portfolios are managed. Managed companies are further classified as either closed-end or open-end companies are what we commonly call mutual funds.
Sunday, December 6, 2009
investments companies
Investments companies are financial intermediaries that collect funds from individual investors and invest those funds in a potentially wide range of securities or those assets. Pooling assets is the key idea behind investment companies. Each investor has claim to the portfolio established by the investment company in proportion to the amount invested. These companies thus provide a mechanism for small investors to ' team up" to obtain the benefits of large-scale investing.
Investment companies perform several important functions for their investors:
1- Record keeping and administration. Investment companies issue periodic status reports, keeping track of capital gains distributions, dividend, investments, and redemption, and they may reinvest dividend and interest income for shareholders.
2- diversification and divisibility. By pooling their money, investment companies enable investors to hold fractional shares of many different securities. They can act as large investors even if any individual shareholder cannot.
3- professional management. Many, but not all, investment companies have full-time staffs of security analysts and portfolio managers who attempt to achieve superior investment results for their investors.
4- lower transactions costs. Because they trade large blocks of securities, investment companies can achieve substantial savings on brokerage fees and commissions.
While all investment companies pool assets of individual investors, they also need to divide claims to those assets among investors. Investors buy shares in investment companies, and ownerships proportional to the number of shares purchased. The value of each share is called the net asset value, or NAV. net asset value equals assets minus liabilities expressed on per-share basis
Investment companies perform several important functions for their investors:
1- Record keeping and administration. Investment companies issue periodic status reports, keeping track of capital gains distributions, dividend, investments, and redemption, and they may reinvest dividend and interest income for shareholders.
2- diversification and divisibility. By pooling their money, investment companies enable investors to hold fractional shares of many different securities. They can act as large investors even if any individual shareholder cannot.
3- professional management. Many, but not all, investment companies have full-time staffs of security analysts and portfolio managers who attempt to achieve superior investment results for their investors.
4- lower transactions costs. Because they trade large blocks of securities, investment companies can achieve substantial savings on brokerage fees and commissions.
While all investment companies pool assets of individual investors, they also need to divide claims to those assets among investors. Investors buy shares in investment companies, and ownerships proportional to the number of shares purchased. The value of each share is called the net asset value, or NAV. net asset value equals assets minus liabilities expressed on per-share basis
Saturday, October 24, 2009
Disadvantages of preferred stock
The two major disadvantages of preferred stock are the seniority of the holder's claims and its cost.
Seniority of the holders´ claims.
Since holders of preferred stock are given preference over common stock holders with respect to the distribution of earnings and assets, the presence of preferred stock in a sense jeopardizes common shareholder's returns. Adding preferred stock to the firm's capital structure creates additional claims prior to those of common stockholders. If the firm's after-tax earnings are quite variable, its ability to pay at least token dividends to common stockholder may be seriously impaired.
Cost.
The cost of preferred stock financing is generally higher than the cost of debt financing. This is because the payment of dividends to preferred stockholders is not guaranteed, whereas interest on bond is. Since preferred shareholders are willing to accept the added risk of purchasing preferred stock rather than long-term debt, they must be compensated with a higher return. Another factor causing the cost of preferred stock to be significantly greater than that of long-term debt is the fact that interest on long-term debt is tax-deductible, while preferred dividends must be paid from earnings after taxes.
Seniority of the holders´ claims.
Since holders of preferred stock are given preference over common stock holders with respect to the distribution of earnings and assets, the presence of preferred stock in a sense jeopardizes common shareholder's returns. Adding preferred stock to the firm's capital structure creates additional claims prior to those of common stockholders. If the firm's after-tax earnings are quite variable, its ability to pay at least token dividends to common stockholder may be seriously impaired.
Cost.
The cost of preferred stock financing is generally higher than the cost of debt financing. This is because the payment of dividends to preferred stockholders is not guaranteed, whereas interest on bond is. Since preferred shareholders are willing to accept the added risk of purchasing preferred stock rather than long-term debt, they must be compensated with a higher return. Another factor causing the cost of preferred stock to be significantly greater than that of long-term debt is the fact that interest on long-term debt is tax-deductible, while preferred dividends must be paid from earnings after taxes.
Sunday, October 11, 2009
Instruments of the money market
The key instruments of the money market include treasury bills, tax-anticipation bills, treasury notes, federal agency issues, negotiable certificates of deposit, commercial paper, banker's acceptances, money market mutual funds, and repurchase agreements. These marketable securities will be described in next topic. It is important for you to a general understanding of the key characteristics of these instruments. One characteristic common to all is liquidity. The annual rate of return, or yield, on these securities reflects directly the "tightness' or "looseness" of money. Difference in return between various instruments result from the different degrees of risk associated with the issuers. Although the list of securities given above is not all-inclusive, it does contain the key money market instruments available to the corporate purchaser. The only instrument actually issued by a nonfinancial corporate business is commercial paper.
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