1. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-1 5 Chapter The Financial Services Industry: Mutual Funds

2. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-2 Overview u In this segment... Mutual Funds: Activities of mutual funds Size, structure and composition Balance sheets and recent trends Regulation of mutual funds Global issues Hedge funds*

3. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-3 Mutual Funds u Open-ended u Closed-end u End of 2000: More than 7,100 stock and bonds mutual companies. Total assets of $5.12 trillion. 8,200 firms and $6.97 trillion if money market mutual funds included

4. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-4 Size, structure and composition First mutual fund: Boston, 1924. Slow growth, initially. Advent of money market mutual funds, 1972. »Regulation Q. Total assets in stock and bond mutual funds: »1940: $0.4 billion. »1990: $568.5 billion »2000: $5,120.0 billion.

5. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-5 Size, Structure and Composition By asset size, mutual fund industry second most important FI group. Recent inroads by commercial banks and insurance companies »Mellon purchase of Dreyfus »State Farm (9,000 agents)

6. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-6 Types of Mutual Funds u Long-term funds (71.0% of assets, 2000) Bond and income funds. Equity funds. Hybrid u Short-term funds (29.0% of assets, 2000) Taxable and tax-exempt MMMFs Generally higher returns than bank deposits but uninsured.

7. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-7 Number of Mutual Funds

8. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-8 Overview of Mutual Funds Objectives (and adherence to stated objectives), rates of return and risk characteristics vary. u Examples: Aggressive growth funds Growth funds Precious metals World

9. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-9 Returns to Mutual Funds Income and dividends of underlying portfolio. Capital gains on trades by mutual fund management. Capital appreciation in values of assets held in the portfolio. »Marked-to-market. »Net-asset value (NAV).

10. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-10 Web Resources u For information on the performance of mutual funds, visit: Morningstar www.morningstar.com Web Surf

11. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-11 Types of Funds Open-ended funds: contrast with most corporate securities traded on stock exchanges. Closed-end investment companies: Fixed number of shares »Example: REITs. »May trade at premium or discount. Load versus no-load funds.

12. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-12 Mutual Fund Costs u Two types of fees: Sales loads »Generally, negative effect on performance outweighs benefits Fund operating expenses »Management fee »12b-1 fees

13. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-13 Mutual Fund Share Quotes u Quotes include: Fund name, Objective, Minimum investment required, Asset size, Maximum initial and exit sales charges, Annual expenses, NAV, Dividends, Quarterly earnings, One-through five-year rating (A through E).

14. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-14 Balance Sheet and Trends u Money Market Funds Key assets are short-term securities (consistent with deposit-like nature) »2000: $1,303.9 billion (71.9% of total assets) Many have share values fixed at $1 and adjust number of shares owned by the investor.

15. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-15 Balance Sheet and Trends u Long-term Funds Stocks comprise over 72.8 % of asset portfolios in 2000. Shift to U.S. Treasuries, municipal bonds etc. when equity markets not performing as well.

16. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-16 Regulation One of the most closely regulated among non- depository FIs. Primary regulator: SEC »Emphasis on full disclosure and anti-fraud measures to protect small investors. »NASD supervises mutual fund share distributions.

17. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-17 Legislation Securities Act 1933, 1934 Investment Advisers Act, 1940. Insider Trading and Securities Fraud Enforcement Act of 1988. Market Reform Act of 1990 »Allows SEC to halt trading and introduce circuit breakers. National Securities Markets Improvement Act of 1996. »Exempts mutual fund sellers from state securities regulatory oversight.

18. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-18 Web Resources u For details of regulation of securities firms and investment banks, visit: SEC: www.sec.gov NASD: www.nasd.com Web Surf

19. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-19 Global Issues u Worldwide growth in mutual fund investment not as great as in the U.S. $1,626 trillion in 1992 to $4,833 trillion in 2000 »200% growth compared to 340% in U.S. Larger returns in U.S.stock markets Greatest development in countries with most developed markets Opportunities from declining Japanese markets

20. ©2003 McGraw-Hill Companies Inc. All rights reserved Slides by Kenneth StantonMcGraw Hill / Irwin 5-20 Hedge Funds* u Not technically mutual funds Not subject to SEC regulation Organized as limited partnership Common feature is use of leverage u High returns in 1990s u Near collapse of Long-Term Capital Management $3.6 million bailout