1. Chapter 15 Investing in Mutual Funds Mutual Funds Raise money by selling shares to the investing public Use these pooled funds to purchase various types of securities

2. Chapter 15 Investing in Mutual Funds Mutual Funds INDIRECT INVESTMENT –You own shares in the mutual fund company. –The mutual fund owns the shares of the individual company stocks and bonds.

3. Chapter 15 Investing in Mutual Funds Open-end Investment Funds Constantly issuing new shares and redeeming existing shares A buyer buys shares DIRECTLY FROM THE FUND A buyer redeems shares BACK TO THE FUND

4. Chapter 15 Investing in Mutual Funds Mutual Funds –Passes the income paid by securities in interest or dividends along to the shareholders –Also passes the capital gain or loss (if security becomes more or less valuable) along to the shareholder

5. Chapter 15 Investing in Mutual Funds Measuring Value of Mutual Funds NET ASSET VALUE important number for determining mutual fund’s worth Formula for computing: Current market value of securities owned LESS liabilities Divided by number of outstanding shares

6. Chapter 15 Investing in Mutual Funds Measuring Value of Mutual Funds If the current market value of securities owned is: – $53 million and there are – 12 million shares, – the NET ASSET VALUE is: $53 million/ 12 million = $4.42 per share As the market value changes, the fund’s net asset value changes as well.

7. Chapter 15 Investing in Mutual Funds Buying Mutual Funds –Can be purchased through a stockholder or directly from mutual fund –Obtain a prospectus before purchasing which states: *Investment objectives of the fund *Types of securities it purchases *Recent performance *Fees charged

8. Chapter 15 Investing in Mutual Funds Services Offered by Mutual Funds XAutomatic Reinvestment of Distributions XAutomatic Investments XExchange Privileges XCheck Writing

9. Chapter 15 Investing in Mutual Funds Automatic Reinvestment of Distributions Profits put back into your account. Increases the number of shares you own You can reinvest either: Investment income (dividends and interest) Realized capital gains (selling a security for more than you paid for it) Excellent way to establish regular investment plan

10. Chapter 15 Investing in Mutual Funds Exchange Privileges –Funds often part of MUTUAL FUND FAMILY (different mutual funds offered by same company) Money can be transferred between funds within this family Transfers can be done by phone

11. Chapter 15 Investing in Mutual Funds Check Writing –Fund redeems enough shares to cover the checks –Usually checks must be made for a minimum of $500 –These accounts do not replace function of bank or credit union checking account

12. Chapter 15 Investing in Mutual Funds Mutual Fund Regulations –Regulated by U.S. Securities and Exchange Commission (SEC)  Determines information covered in prospectus  Limits types of advertisements mutual funds can use –Also subject to state approval

13. Chapter 15 Investing in Mutual Funds Obtaining Mutual Fund Information Two of best-known rating services Morningstar CDA/Wiesenberger Also annual issues devoted to mutual funds in  Money magazine  Consumer’s Report

14. Chapter 15 Investing in Mutual Funds Classifications of Mutual Funds Traditionally classified as: 1. Stock funds 2. Bond or income funds 3. Money market funds

15. Chapter 15 Investing in Mutual Funds Stock Funds Can be further categorized as: èAggressive growth funds èGrowth and income funds èLong-term growth funds èSmall company growth funds èInternational funds

16. Chapter 15 Investing in Mutual Funds Bond Funds Can be further categorized as:  Government funds  High-yield corporate funds  Investment-grade corporate funds  Mortgage-backed securities funds  Municipal bond funds  World income funds

17. Chapter 15 Investing in Mutual Funds Money Market Funds Can be further categorized as: 4Government funds 4Taxable funds 4Tax-exempt funds

18. Chapter 15 Investing in Mutual Funds Three Types of Mutual Funds Worth Noting –Sector Funds –Asset Allocation Funds –Index Funds

19. Chapter 15 Investing in Mutual Funds Asset Allocation Funds 4Classified as total return funds 4Invest in mixture of stocks, bonds, and money market instruments 4Percentage invested in each to produce:  High returns  Less volatility

20. Chapter 15 Investing in Mutual Funds Index Funds –Attempts to replicate performance of a major stock index –Standard & Poor’s 500 most popular index Comprised of 500 large, well-known companies Considered one of best measures of overall stock markets

21. Chapter 15 Investing in Mutual Funds Index Funds –Investors do no better and also no worse than overall market –Two reasons to invest:  Average stock fund has had difficulty beating overall stock market lately  Low fees charged by funds

22. Chapter 15 Investing in Mutual Funds Sector Funds –Invest in only one industry (telecommunications, for example) –Much more risky than other stock funds

23. Chapter 15 Investing in Mutual Funds Advantages of Mutual Funds Three main reasons to invest in mutual funds: 1. Diversification 2. Small minimum investment 3. Professional management

24. Chapter 15 Investing in Mutual Funds Diversification *Typical stock fund owns over 100 different common stocks *Duplicating this diversification individually would necessitate HUGE investment of time HUGE investment of money However not all stocks funds are diversified. Read the prospectus.

25. Chapter 15 Investing in Mutual Funds Smaller Minimum Investment Investor can purchase well-diversified portfolio for small investment Same amount of dollars would not allow individual to achieve this diversification Stock and bond mutual funds usually require initial investments between $1,000 and $3,000

26. Chapter 15 Investing in Mutual Funds Professional Management –Eliminates most time-consuming paperwork –May include the preparation of some tax forms –Managers make all the buy and sell decisions –Although professionally managed, NO GUARANTEE THE FUND WILL ALWAYS PRODUCE SUPERIOR RESULTS

27. Chapter 15 Investing in Mutual Funds Picking the Right Fund –After choosing your goals, identify mutual fund most consistent with á Your goals á Your investment time horizon á Expected return needed to meet your goals á Your tolerance for risk

28. Chapter 15 Investing in Mutual Funds Evaluating Fees and Expenses Three key points to remember in evaluating fees and expenses Substantial variation exists in operating expenses They can dramatically impact value of investment over time Evidence exists that higher fees affect performance adversely

29. Chapter 15 Investing in Mutual Funds Historical Performance Perhaps single most important criterion for choosing between funds  Reports on performance for evaluating funds include:  Type of fund and investment style  Total return  Relative performance  Risk  Overall rating

30. Chapter 15 Investing in Mutual Funds Total Return Measures return over a period of time  Takes into account Income received Changes in price  To assess total return, examine performance Over varying period of time The longer time frame, the better

31. Chapter 15 Investing in Mutual Funds Relative Performance Comparing mutual fund’s performance to a relative benchmark –Best benchmark is market index comprised of type of securities in which the fund invests –Can also compare performance of a mutual fund to other funds with similar objectives

32. Chapter 15 Investing in Mutual Funds How Does Dollar Cost Averaging Work? Elise has $1,500 to invest. She is debating whether to invest the whole amount at one time (lump sum) or to invest in regular intervals over the next six months. If the price per share declines over time you can buy more shares. The opposite is also true. Remember the Time Value of Money – Money today will be worth more in the future than payments

33. Chapter 15 Investing in Mutual Funds Making Changes to Mutual Funds Investments 4Re-assessing investment goals as investor ages 4Rebalancing investments to Adjust income to maintain target asset allocation Re-adjust changing returns earned by different types of investments

34. Chapter 15 Investing in Mutual Funds Warning Signs for Mutual Funds 1. Performance lags behind benchmarks for three consecutive years 2. Fund gets very LARGE very FAST Manager may run out of good investments Performance will subsequently suffer

35. Chapter 15 Investing in Mutual Funds Warning Signs for Mutual Funds 3. Expenses keep rising Rising fees charged by funds trying to benefit from popularity Rising fees mean lower returns 4. Management turnover New manager’s investment philosophy may be different