Series 6 - Unit 5 - Investment Companies

goal of an investment company

manage money in a way that makes it more efficient than if each investor managed it their own

Types of investment companies per the Investment Company Act of 1940 (3)

FACs

UITs

Management Companies

To register with the SEC as an investment company, they must (2)

1. Have 100k net assets (or have it within 90 days of registration)

2. Have clearly state investment objective (only changeable with majority vote of shares)

UITs

fixed investment, fixed lifespan. Not managed

UITs have a ___ _____ public offering

one-time

do UITs ever trade in the secondary market?

No. shares are redeemed with the trust

Closed-End Fund

• Actively managed

• CAN issue common, preferred, bonds

• No new shares created after IPO

• Existing shares trade on the secondary market

• Price determined by supply and demand - they can be priced higher or lower than their actual value NAV

Open-End Fund

• Actively managed

• ONLY issues common

• Continuous new shares

• No secondary transactions - shares redeemed with fund

• DRPE - ex date comes after the record date

What right do closed-end investors have that open-end investors don't?

preemptive rights

An open end fund has their ex date set by _____, while a closed end fund has theirs set by _____

BOD, FINRA (or other SRO)

ETF

• Open ended fund

• Managed

• Trade on stock exchanges throughout the day at changing prices

• Large investors redeem shares directly with the fund, retail investors trade ETF shares in the secondary market

can Series 6 holders trade ETFs?

NO. Cannot trade in secondary market

(4) types of disclosure docs for mutual funds:

1. Full (statutory) prospectus

2. Summary prospectus (rule 498)

3. Statement of Additional Information (SAI)

4. Omitting Prospectus (Rule 492 prospectus)

(6) things found on the full (statutory) prospectus of a mutual fund:

1. Investment objectives

2. Investment Policies

3. Sales charges

4. Management fees

5. Services offered

6. 1,5,10 year performance history, or for as long as its existed

"Ongoing Prospectus"

because of the continuous primary offering, a mutual fund must always have a prospectus available

Summary Prospectus

rule 498, mutual funds can distribute a standardized summary prospectus

On cover page, summary prospectus must include (3)

1. Fund name/share classes

2. Ticker symbol

3. Legend statement - states this is a summary prospectus and full prospectus is available. Must include phone number and website to access full prospectus

additionally, summary prospectus must provide (6)

1. investment goals, risks, past performance

2. Fee tables

3. Investment strategies and risks

4. portfolio holdings and management details

5. Shareholder info

6. Financial highlights

Statement of Additional Information (SAI)

available within 3 business days FREE OF CHARGE, SAI provides fund history, policies, and financial statements (balance sheet, statement of operations, income statement, portfolio list)

Omitting Prospectus

rule 482, a tombstone advertisement w/ basic info of the fund

While a ___________ _________ contains enough info for investor to make a decision, _________ __________ does not

summary prospectus, omitting prospectus

which disclosure doc is considered the most detailed

SAI

Growth Funds

• Invest in rapidly growing companies that reinvest profits rather than pay dividends

• Higher risk

Types of Aggressive Growth Funds (3)

1. Small-Cap (250 million to 2 billion)

2. Mid-Cap (2 billion to 10 billion)

3. Large-Cap (more than 10 billion)

A small-cap or mid cap aggressive growth fund would be suitable for someone…

willing to take high risks for big rewards over 10-15 years

A Large-Cap/Blue-chip aggressive growth fund would be suitable for someone…

who is okay with some risk over at least 5-7 years

Value Funds

• Focus on undervalued companies - stock prices are lower than earnings potential

• Pay higher dividends than growth funds

• Seen as more stable than growth funds

• Suitability - "investor saving for vacation home in 7-10 years"

Equity Income Funds

• Prioritizes income over growth

• Invest in companies with high, regular dividends - utility companies, blue-chip, and preferred stock

• Suitability - low/moderate risk, income priority

Option Income Funds

• invests in stocks that allow them to sell call options

• Generates premium income and capital gains

Growth and Income Funds

• Combines investments in high-growth companies and dividend companies

• Suitability - moderate risk, mix of income and growth

Specialized (Sector) Funds

• Specialize in a specific industry or region

• Must have 25% of their assets in their specialty

• High risk, high reward - for investor who has conviction in certain sector

Special Situation Funds

• Invest in companies going through mergers, acquisitions, or reorganizations

• High risk

Blend/Core Funds

• Mix blue-chips and high-risk growth stocks

• Mixes high risk with some stability

Index Funds

• Track a market index (S&P 500)

• Low management, low costs

• For an investor who believes it's difficult to beat the market

Types of Foreign Funds (3)

1. International Funds - focus only on foreign companies

 

1. Global Funds - US and foreign

 

1. Frontier Funds - focus on developing economies, higher risk

Balanced/Hyrbid Funds

• Invest in stocks for growth and bonds for income

• The balance of stock/bonds is changeable. Fund manager has the ability to swing allocation of portfolio to one side or the other to take advantage of economic trends

*example, if fund is 60/40 stocks and bonds, manager can switch it to 60/40 bonds and stocks

Asset Allocation Funds

• Hold a fixed allocation of investments in stocks, bonds, cash, gold/silver, real estate

• Proportional allocation stays close to the same

Target Date Funds

• Adjusts investments based on retirement year

• Becomes more conservative as date approaches

Bond Funds

• Owns bonds that pay the fund interest, which is paid to investors in dividends

• Fund value is very impacted by interest rates

• Conduit theory - the taxable nature of a dividend stays the same as its source (example - a municipal bond fund's dividends are taxed the same as a municipal bond fund's interest is taxed

Corporate Bond Funds

higher credit risk and higher returns than government bonds. Can be investment grade or junk bonds

Tax Free Bond Funds

- municipal bonds that are tax-free at federal level

• For a high tax bracket investor who wants tax-free income

Principal Protected Funds

• Guarantee return of principal if held for a set period of time

• For those focused on preserving principal rather than high returns

US Government Funds

• US Treasury securities and agency bonds (Ginnie Mae)

• Income + maximum safety

Agency Funds

Has bonds from agencies that are GTD by federal gov (Ginnie Mae) and bonds that are sponsored by the federal gov (Fannie Mae, Freddie Mac)

Agency issues are safer than X, but riskier than Y

corporate bonds, government bonds

• have higher yields than government bonds

5.3 buying and selling investment companies

.

UITs: buy/sell

Buy - directly from issuer using a prospectus

Sell - on stated end date

NAV =

total assets - total liabilities / outstanding shares

Mutual Funds: buy/sell

Buy: directly from issuer through prospectus at POP: next NAV + Sales Charge

Sell: "redeemed" with issuer at next NAV

What do sales charges/loads pay for? (2)

1. Commissions

2. Advertising and sales materials

Front-End Loads

• Class A

• Paid at purchase

Front end loads are best for…

large investments (take advantage of breakpoints) being held for a long time

Rights of Accumulation

allow investors to qualify for lower SC based on total investments in the fund

Combination Privilege

combine funds from the same family to achieve breakpoint

Exchange Privilege

switch between same family of funds with no sales charge

Exchange Privilege DOESN’T help with the fact that….

redeeming shares of one fund is a taxable event. Investors owe capital gains tax on the exchange

Back-End Loads (CDSC)

• Class B

• Contingent deferred sales charge that declines the longer the investment is held until it drops to 0, then converted into Class A shares

Level loads

• Class C

• Ongoing 0.75% 12b-1 fee and 0.25% shareholder service fee

• Best for short term investors

No-Load Funds

• No sales charge

• Instead, purchase fees, account fees, exchange fees, and redemption fees

what’s different about how no-load funds are often sold

directly to investors with no broker involved

A fund can call itself "no load" as long as…

12b-1 fees do not exceed 0.25% of average annual net assets

the max 12b-1 fee under FINRA rules is…

0.75%

POP =

NAV + Sales Charge (% of POP)

If you have NAV and SC% and want to calculate POP, use this formula:

POP =

NAV / (1 - SC%)

• Example, if NAV = 9.50 and SC% = 5

• 9.50 / (1 - .05) = 10

12b-1 fees cover….

marketing and fund distribution costs

Expense Ratio =

Fund expenses / total net assets

typical stock fund expense ratio

1%-1.5%

typical bond fund expense ratio

0.5%-1%

(4) things included in expenses

1. Manager's fee

2. Admin costs

3. Board of directors costs

4. 12b-1 fees

Turnover Ratio

shows how often fund buys/sells investments in its portfolio

• Higher ratio = higher costs/expense ratio

BOD for mutual funds: (2) types of members

1. Interested Members - work for fund or its sponsor

2. Noninterested members - don't work for fund or sponsor

at least __% of BOD must be uninterested

40

Voluntary Accumulation Plans

• Allows investors to make regular deposits at their own pace

• Encourage consistent investing habits while giving investors flexibility

• Missing a payment does not result in a penalty. It's voluntary. Can stop any time

Dollar Cost Averaging

• Investing same amount at regular intervals, no matter what market price is

• Helps lower average cost/share compared to average price/share

• Doesn't guarantee profit or prevent losses

Mutual Fund Withdrawal Plans

• Withdraw money on a regular schedule

• Most require a minimum acct balance before

• Most discourage new investments once investor starts withdrawals

Fixed Dollar Withdrawal Plan

• Specific dollar amount is chosen to withdraw each period, necessary amount of shares are sold

• Investor doesn't know how long withdrawals will last

Fixed Percentage / Fixed Share Withdrawal Plan

• Percentage or number of share withdrawn is chosen

• Withdrawal amount and end date are variable, depend on funds' performance

Fixed-Time Withdrawal Plan

• Fixed time period is chosen

• Withdrawal amount varies based on performance

Which of the following statements about mutual fund sales charges and fees is correct?

A)

A back-end load is paid at the time of purchase and reduces the amount invested in the fund.

 

B)

A front-end load is a sales charge paid when purchasing shares, calculated as the difference between the public offering price (POP) and net asset value (NAV).

 

C)

Level loads are charged only at redemption and do not include any ongoing fees.

 

D)

No-load funds do not charge any fees, including purchase fees, redemption fees, or 12b-1 fees.

B

Which of the following is included in a mutual fund's expense ratio?

A)

Shareholder profits earned from fund investments

B)

Management fees, administrative costs, and 12b-1 fees

C)

Sales charges (loads) paid by investors when buying or selling fund shares

D)

Capital gains taxes on securities sold within the fund’s portfolio

B