FI mutual funds, ETFs, and hedge funds

investment fund

sells shares to investors and invests the proceeds in a portfolio or securities

diversification

with $1000 you can own a slice of 500 companies; much cheaper and easier than building that portfolio one stock at a time

denomination intermediation

funds can buy securities in large amounts that would be out of reach for individual investors

economies of scale

in many markets relative transaction costs decline with size

liquidity transformation

mutual fund and ETF shares tend to be more liquid than underlying portfolio assets

professional management

delegated security selection and monitoring

long term funds

equity funds (the majority), bond funds, and hybrid funds

short term funds

taxable and tax-exempt money market funds

income distributions

dividends and interest earned by the portfolio, passed through (funds must distribute — to avoid taxation at the fund level)

capital gains distributions

gains realized when the manager sells appreciated holdings, passed through annually

NAV appreciation

unrealized gains on holdings still in the portfolio, reflected in the daily marked-to-market NAV

sales loads

one-time commissions — front-end (on purchase) or back-end (on redemption); compensate the selling broker

• funds’ share of assets has fallen steadily with investors migrating to no-load and institutional share classes

expense ratio

annual charge against fund assets

1. management fee (the advisor’s compensation)

2. 12b-1 fees: distribution and marketing, up to 1% per year

3. operating costs: custody, administration, audit