1. Personal Finance Mutual Funds
Bill Klinger

2. Personal Finance
Review
Asset classes
Returns
Risk
Stocks
Bonds

3. Modern Portfolio Theory
Asset class investments tend to move together – correlation
For example, in a recession
But investments do not always move together
For example, high oil prices are good for oil companies but bad for airlines
Bad quality may affect only one company
Diversifying your investments, can increase your average return and lower your risk!

4. Not All Risk is the Same
Firm Risk = Systemic risk Idiosyncratic Risk
Business Cycles
Financial
Markets
Global
Conditions
Risk Unique to the
Firm
Source of Correlation
Idiosyncratic risk can be diversified away!

5. Diversification – Simple Example
IBM and AT&T
When IBM went down, AT&T went up.
When AT&T went down, IBM went up.
Not always. Maybe we should add more or different stocks.
With large portfolio, 30 – 200 stocks, idiosyncratic moves cancel out!

6. Adding Investments Can Reduce Risk

7. Diversification with Stocks and Bonds
Note: adding some stock to a 100% Treasury portfolio increases the return and decreases the risk!

8. Foreign Diversification

9. Mutual Funds Fund Net asset value (NAV) Expense ratio
Investment firm pools money from investors
Buys securities
Net asset value (NAV)
Value of the securities in a fund
Analogous to stock price
Expense ratio
Expenses incurred as a percent of fund value
Lower is better – duh

10. Mutual Funds Open-end Closed-end Load fund No-load fund
Sells new shares on demand
Redeems shares on demand
Closed-end
Sells shares when created
Does not redeem shares
Shares bought and sold on stock exchanges
Load fund
Charges to get in, out, or both of fund
No-load fund
No fees to buy or sell
Managed / Index

11. Types of Stock Funds Growth Capital appreciation Small-cap Mid-cap
Large-cap
Equity income (dividend paying)
Balanced
Sector funds
Technology, Medical, Energy, Gold and precious metals, Etc.
International Stock
Social responsibility

12. Types of Bond Funds Treasury bond Corporate bond High yield (junk)
Municipal
International
Term
Short, medium, long-term

13. Index Funds Designed to track an index (benchmark) Not managed
Low costs
Examples
Vanguard
Index 500 Index
Total Stock Market Index
Total International Index
Total World Index
Total Bond Index
Target Retirement 2050
Target Retirement 2055
Fidelity
500 Index
Total Market Index
International Index
U.S. Bond Index
Schwab
S&P 500 Index
Total Stock Index

14. ETFs Exchange-traded funds Security that tracks Trades like stocks
Index
Commodity
Fund
Trades like stocks
Value changes throughout the day
Mutual funds NAV set at end of day
Costs
Bid-ask spread
May have brokerage cost

15. Mutual Funds Returns Risks Dividends and interest Capital gains
Annual
When sell
Risks
Market risk
Interest rate risk for bond funds

16. Selecting a Mutual Fund
Investment objective
Strategy / policy
Past performance
Is no guarantee of future performance!
Legg Mason example
Fees and expenses
Risk
Ratings
E.g. Morningstar

17. Buying a Mutual Fund Quotations Go through broker Other funds Scams
NAV
Go through broker
Other funds
Hedge funds
Scams
Madoff

18. In Class
In groups of two
Chapter 17, Financial Planning Exercises