1. Mutual funds (see Ch. 16 Hirschey and Nofsinger)

2. Investment Companies
An investment company invests a pool of funds belonging to
many individuals in a portfolio of individual investments such as
stocks and bonds
Benefits:
Diversification
Professional management
Low capital requirement
Reduced transaction costs
Access to illiquid markets
Access to non-traditional trading strategies

3. Mutual Funds
An investment company that issues its portfolio shares to investors.
Money from shareholders are pooled and invested in a wide range of stocks, bonds, or money market securities.
Managed by professional managers
Each investor shares proportionately in the income and investment gains and losses, as well as the brokerage expenses and management fees.
Open end fund: # of shares issued solely depends on investor demand
Bought and sold directly through the investment company (not an exchange)

4. Net Asset Value Used as a basis for valuation of mutual funds.
Selling new shares
Redeeming existing shares
Calculation:
Market Value of Assets – Fund Expenses - Liabilities
Shares Outstanding
A mutual fund has $100 mil in assets and $3 mil in short term liabilities mil shares outstanding. What is the NAV?
Solution
($100 mil - $3 mil) / mil = $ per share

5. Sources of Information
Lipper Inc.: leading provider of data and analysis on the investment company business ( )
Morningstar.com: provide unbiased data and analysis and candid editorial commentary (
Vanguard Group: providing competitive investment performance and lowest operating expenses ( )

6. Mutual Funds: Investment Policies
Money Market
Fixed Income
Equity
Balance & Income
Asset Allocation
Indexed
Specialized Sector

7. Mutual Fund Organization
Mutual fund shareholders: own mutual funds, elect the board of directors
Majority of the directors must be independent directors
Investment advisor: manages the day-to-day operations
Principal underwriter, administrator, transfer agent, custodian, and independent public accountant

8. Types of Investment Organizations
Mutual funds
Open-End
Closed-End
(Stock trades on secondary market; Net asset value (NAV) is determined daily, but market price determined by supply and demand)
- ETFs (Exchange Traded Funds)
Hedge Funds
Private equity/venture capital funds

9. Costs of Investing in Mutual Funds
Fee Structure
Front-end load
Back-end load
Operating expenses
12 b-1 charges
distribution costs paid by the fund
Alternative to a load
Fees and performance

10. Mutual funds: Performance
It’s not conclusive
Most of the studies suggest that the average MF underperforms its benchmark
There is some evidence of short-term performance persistence
The evidence show that it’s not easy to find funds that outperform
for a long period of time
Nonetheless, “hot” funds receive a disproportionately amount of
new money

11. Closed-End Funds
Issues a fixed number of shares at a given point in time
Collect money from investors through and IPO and use this money to invest in securities.
# of securities are fixed at the time of IPO.
When the market price exceeds its NAV, selling at a premium, otherwise, selling at a discount (closed-end funds typically sell at a discount)
Suited to specialized investing in small or illiquid markets

12. Exchange Traded Funds
Are similar to closed-end funds: traded securities; entails commission costs
Each ETF is a claim on a trust that holds a specified pool of assets (e.g. S&P500 index components)
Examples:SPDRS,ishares,HOLDERS
Advantages:
Liquidity
Taxes
Can be purchased on margin or sell short
ETF are appropriate for short-term investors and the ones who buy in large lots

13. Alpha Alpha = mutual fund return – benchmark return
Higher the Alpha better the fund performance

14. Morningstar rating
Created in 1984 to provide comprehensive assessment of mutual funds
The star system was not meant to predict future performance
5* - the top 20% of the funds 1* the bottom 20%

15. Hedge Funds Considerable confusion exists concerning hedge funds –
what they are (and are not) and how they work
Hedge funds are privately organized, pooled investment vehicle with no restrictions in terms of investment strategies, asset classes and use of leverage
Many of them registered off-shore for tax and regulatory reasons
Can’t have more than 100 “accredited” investors or 500 “super-accredited” investors
Accredited investor: net worth > 1 million or income of $200,000 in each of the past two years
Super-Accredited investor: net worth > 5 million

16. Hedge Funds Do they all hedge?
Are not allowed to advertise broadly and engage in
“ general solicitation” to the investing public
Charge 1-2% of assets under management and 20-25% of profits
First hedge fund on record, Jones Hedge Fund, was established in 1949
He hedged the US equity market risk and focused on stock selection
By 2001, more than 5,000 funds in existence world-wide
Common features:
- shorting
- leverage
- concentration
Do they all hedge?

17. Hedge Fund Strategies Long-short equity Equity market neutral
Fixed-income arbitrage
Convertible arbitrage
Merger arbitrage
Global macro
Special situations

18. Learning objectives
Discuss the advantages and disadvantages of mutual funds
Know how to calculate NAV
Define and Discuss the differences between open end, closed end and ETFs
Briefly discuss the costs, loads and fees of investing in mutual funds
Morningstar and Style boxes
Discuss the governance structure, Mutual Funds as Tournaments, and Performance (p )
Discuss what the hedge funds are, and how do they differ from traditional professionally managed investment products
End of chapter questions 16.2, 16.3, 16.4,16.6, 16.7, 16.11