1. Chapter 10 Retail Sales

2. Distribution Channels for Mutual Funds Retail Sales Intermediary channel Sales made through third-party salespeople. Direct channel Sales made directly by a fund or through a fund supermarket. Retirement channel Sales made through employer- sponsored retirement plans.

3. What Sells Mutual Funds? Outstanding investment returns. –Though this is rarely a successful investment strategy. –High Morningstar ratings are particularly valued. Some investors look for funds with high yields or low expenses. Advertising. The recommendation of a financial adviser.

4. The Intermediary Channel Advice is the key selling proposition of the intermediary channel. –Firms in this channel work through representatives who provide investment advice.

5. Intermediary Channel Segments (1) Wirehouses: national firms. Independents: typically a few professionals. Regionals: often provide support networks for smaller firms. Generally don’t manage funds, though in the past had large proprietary fund groups. Representatives often called financial advisers. Broker-dealers Large managers of funds Own the wirehouses. Banks

6. Intermediary Channel Segments (2) Largely sell funds as part of variable annuities. Insurance companies Fees are based on level of client assets. Don’t sell proprietary funds. Registered investment advisers (RIAs)

7. FAs vs. RIAs Financial Advisers Regulated under the Securities Exchange Act of 1934. Paid through commissions; can’t received asset-based fees. Not required to send brochure. Currently subject to suitability standard of care (though this is under review). Registered Investment Advisers Regulated under the Investment Advisers Act of 1940. Paid through fees based on assets; can’t receive commissions. Required to send clients a brochure. Subject to fiduciary standard of care.

8. Selling through Broker-Dealers When selling through broker-dealers, mutual fund management companies try to increase the visibility of their funds by: Having a large sales force, known as a wholesaling team. Participating in wrap programs when possible. –Broker-dealers select funds to participate in the wrap program. –Financial advisers choose funds from the program for their clients. –Clients pay an annual fee to participate, but don’t pay a sales load.

9. Compensation for Selling Fund Shares (1) Direct client charges Paid by client directly to intermediary. Fees imposed by fund Paid by client indirectly through the fund to the intermediary. The payment from the fund to intermediary is the reallowance. Front- and back-end loads 12b-1 fees Fees paid by the management company Paid from the management company’s profits and not by the client. Revenue sharing Sub-transfer agent fees

10. Compensation for Selling Fund Shares (2) Fees paid by client directly to the intermediary. Include wrap program fee and fees charges by registered investment advisers. Direct client charges Paid when buying fund shares. Paid directly from the shareholder’s account to the fund. Often reduced through breakpoints for larger investment amounts. Often waived for certain types of investors. Added to the NAV for the offering price. Front-end load

11. Compensation for Selling Fund Shares (3) Imposed when shareholder redeems. Generally imposed only when the investor has owned shares for less than a specified period of time. Often decrease with holding period and called contingent deferred sales charges (CDSCs). Back-end loads Annual fee paid by the fund. Included in expense ratio. 12b-1 fees

12. Compensation for Selling Fund Shares (4) Also called marketing support. The management company is effectively sharing part of its fee with the intermediary. Revenue sharing Payments for maintaining shareholder records in omnibus accounts. Paid by the transfer agent which is usually owned by the management company. Sub-transfer agent fees

13. Share Classes Funds may offer investors different combinations of loads and 12b-1 fees, each in a different share class. Typical classes are: Class A: traditional load shares with high front-end load and low 12b-1 fee. Class B: high 12b-1 fee and CDSC. No front-end load. No longer offered by many funds. Class C: level load shares that combine a high 12b-1 fee with a modest CDSC. Class I: institutional shares with no load or 12b-1 fee. Class R: retirement plan shares with a moderate 12b-1 fee.

14. Direct Channel Segments Sell directly to investors. Generally do not impose a front-end load on sales of fund shares; therefore, often called no-load fund segment. Direct marketers Brokerage firms that enable investors to buy funds from many fund families in one account. Investors typically do not pay a load when buying shares through a supermarket. Funds and fund management companies companies pay fees to participate in the supermarket. Fund supermarkets

15. No-Load Funds A fund may call itself no-load as long as it doesn’t: –Charge a front- or back-end load. –Charge a 12b-1 fee greater than 25 basis points (0.25%). No-load funds often have two classes of shares: –Class I: pure no-load, with no sales loads or 12b-1 fees at all. –Class N: no front-end or back-end loads, but with a 12b-1 fee (which can’t exceed 0.25%).

16. The Impact of Fund Supermarkets Fund supermarkets have had a tremendous impact on the structure of the mutual fund industry. They have: –Boosted the growth of the registered investment adviser segment. –Created opportunities for boutique firms, by providing them with cost-effective distribution. –Helped blur the lines between load and no-load funds. Load funds are often sold through fund supermarkets, but with their loads waived.

17. Open Architecture Open architecture gives clients access to funds from many different fund sponsors, not just a proprietary fund managed by the distributor. Open architecture has: Increased competition in the fund industry. Led to the same funds being offered in many channels and blurred the line between load and no-load funds. Created market challenges for fund sponsors. They must: –Place their funds on open architecture platforms. –Find a way to differentiate their funds from the competition.

18. Categories of Mutual Fund Advertisements Performance Investment category Retirement themes Costs Brand Investment advice Online trading and account access

19. Needs-Based Products Needs-based products address a particular investor requirement. Examples: Section 529 plans –College savings accounts with tax advantages. Donor-advised funds –Often called charitable gift trusts. –Allow individuals to establish a tax-advantaged account to be used for future charitable donations.