Download What a Mutual Fund is

Type of Fund: Mutual funds and Hedge Fund
What a Mutual Fund is?
A mutual fund is a company that combines, or pools, investors' money and, generally,
purchases stocks or bonds. Ideally, a fund's size and resultant efficiency, combined
with experienced management, provide advantages for investors that include
diversification, expert stock and bond selection, low costs, and convenience.
In terms of legal structure, a mutual fund is a corporation that receives preferential tax
treatment under the U.S. Internal Revenue Code. The assets of a mutual fund consist
almost entirely of the securities it holds in its portfolio. The most common type of
mutual fund, called an open-end fund, allows investors to buy and sell stock in it on
an ongoing basis.
The Mechanics
The mutual fund issues shares of stock to investors in exchange for cash. It is
interesting to note that funds do not issue a pre-determined amount of stock, as do
most corporations; new shares are issued as each new investment is made. Investors
thus become part-owners of the fund itself, and thereby the assets of the fund. The
fund, in turn, uses investors' cash to purchase securities, such as stocks and bonds. As
mentioned above, the primary assets of a fund are the securities it invests in.
When you buy a mutual fund, you're actually buying shares of the fund. The price of a
share at any time is called the fund's net asset value, or NAV. Invest $1,000 in a fund
with an NAV of $118.74, and you will get 8.42 shares.
The fund takes money and combines it with any other new investments and the money
that's already invested with the fund. Altogether, those investments are the fund's
assets. The fund invests its assets by buying stocks, bonds, or a combination of such
securities. These stocks or bonds are often referred to as holdings, and all of a fund's
holdings taken together are its portfolio.
An investor or shareholder is a portion of that portfolio. Regardless of how much or
how little invest, the shares are the portfolio in miniature.
The Benefits
Mutual funds offer a handful of benefits to investors.
The primary advantages of mutual funds are diversification, professional management
and convenience. By and large, most funds do achieve this basic mission. Over and
above that, funds offer lower costs by virtue of their size; they may receive breaks on
trading costs, and they certainly spread many internal costs over a large shareholder
base, allowing for economies of scale. On the negative side, funds make tax planning
difficult because the timing of taxable distributions is uncertain, and may be
somewhat difficult to track in terms of what they actually are investing. In addition,
fund companies may not disclose so-called non-substantial changes in the way the
funds are managed to investors in a timely manner.
1. They don't demand large up-front investments.
If have just $1,000 to invest, it will be difficult to assemble a varied group of stocks.
If bought a mutual fund, it would get much more. It can buy some funds for as little as
$50 per month, or invest a certain dollar amount each month or quarter.
2. They're easy to buy and sell.
Buy mutual funds can via three ways: through financial advisors, directly from fund
families, or via no-transaction fee networks, which are also called fund supermarkets.
But no matter how buy funds, buy and sell shares are quite easily--often with just a
phone call or mouse click.
The exception: closed funds. Closed funds no longer accept new money, except, in
some cases, from current shareholders. Investors who own closed funds can sell at
any time, though. And when you sell shares of a fund, you get cash in return.
3. They're regulated.
Mutual funds can't take money and head for some remote island somewhere. This
security exists through regulation set by the Investment Company Act of 1940. After
the stock-market madness of the two decades prior to 1940, which revealed big
investors' tendencies to take advantage of small investors, the government stepped in.
Apart from a small handful, mutual funds are not insured or guaranteed. It is not
surprise lose money in a mutual fund, because a fund's value is nothing more than the
value of its portfolio holdings. If the holdings lose value, so will the fund.
4. They're professionally managed.
If planning to buy individual stocks and bonds, it is necessary to know how to read a
cash-flow statement or calculate duration. Such knowledge is not required to invest in
a mutual fund. While mutual fund investors should understand how the stock and
bond markets work, need pay to fund managers to select securities.
Mutual funds are not fairy-tale investments. Some funds are expensive, others are
poor performing, and still others are tax nightmares. But overall, mutual funds are
good investments for those who don't have the money, time, or interest necessary to
compile a collection of securities on their own.
Types of Mutual Funds
1. Stock Funds
Stock funds are a diversified portfolio. Funds that invest in stock represent the largest
category of mutual funds. Generally, the investment objective of this class of funds is
long-term capital growth with some income. There are, however, many different types
of equity funds because there are many different types of equities.
2. Bond/Income Funds
Income funds are named appropriately: their purpose is to provide current income on
a steady basis. When referring to mutual funds, the terms "fixed-income," "bond," and
"income" are synonymous. These terms denote funds that invest primarily in
government and corporate debt. While fund holdings may appreciate in value, the
primary objective of these funds is to provide a steady cashflow to investors. As such,
the audience for these funds consists of conservative investors and retirees.
Bond funds are likely to pay higher returns than certificates of deposit and money
market investments, but bond funds aren't without risk. Because there are many
different types of bonds, bond funds can vary dramatically depending on where they
invest. For example, a fund specializing in high-yield junk bonds is much more risky
than a fund that invests in government securities; also, nearly all bond funds are
subject to interest rate risk, which means that if rates go up the value of the fund goes
down.
Bond Fund
iShares GS $ InvesTopTM Corporate Bond Fund
iShares Lehman 1-3 Year Treasury Bond Fund
iShares Lehman 20+ Year Treasury Bond Fund
iShares Lehman 7-10 Year Treasury Bond Fund
Advisor
Barclays Global Fund Advisors
Barclays Global Fund Advisors
Barclays Global Fund Advisors
Barclays Global Fund Advisors
Credit
A2
Aaa
Aaa
Aaa
(Source: Moody’s: Managed Fund Ratings – Global)
3. Global/International Funds
An international fund (or foreign fund) invests only outside home country. Global
funds invest anywhere around the world, including home country.
It's tough to classify these funds as either riskier or safer. On the one hand they tend to
be more volatile and have unique country and/or political risks. But, as part of a wellbalanced portfolio, actually reduce risk by increasing diversification. Although the
world's economies are becoming more inter-related, it is likely that another economy
somewhere is outperforming the economy of home country.
4. Money Market Funds
The money market consists of short-term debt instruments, mostly T-bills. This is a
safe place to park money. A typical return is twice the amount would earn in a regular
checking/savings account and a little less than the average certificate of deposit (CD).
ABN AMRO Global Liquidity Funds PLC - ABN
AMRO Euro Fund
ABN-AMRO Asset Management
Ltd.
AAAm
Money Market
Fund
ABN AMRO Global Liquidity Funds plc - ABN
AMRO Sterling Fund
ABN-AMRO Asset Management
Ltd.
AAAm
Money Market
Fund
ABN AMRO Global Liquidity Funds plc - ABN
AMRO US Dollar Fund
ABN-AMRO Asset Management
Ltd.
AAAm
Money Market
Fund
ABN AMRO Institutional Prime Money Market
Fund
ABN-AMRO Asset Management
(U.S.A) Inc.
AAAm
Money Market
Fund
ABN AMRO Investor Money Market Fund
ABN AMRO Asset Management
(USA) LLC
AAAm
Money Market
Fund
ABN AMRO Treasury Money Market Fund
ABN-AMRO Asset Management
(U.S.A) Inc.
AAAm
Money Market
Fund
(Source: Stand & Poor’s – Fund Rating 2003)
5. Index Funds
This type of mutual fund replicates the performance of a broad market index such as
the S&P 500 or DJIA. An investor in an index fund figures that most managers can't
beat the market. An index fund merely replicates the market return and benefits
investors in the form of low fees.
Example of Mutual Funds
-- Fidelity Blue Chip Value Fund
The Fidelity Blue Chip Value Fund will primarily invest in securities of well-known,
established companies. Using a value investing discipline, the Fund will seek out
companies that are undervalued relative to other companies in the large-capitalization
category within the U.S. market. The fund focuses on domestic securities, and like
most Fidelity mutual funds, also has the ability to buy foreign securities.
-- Schroder MidCap Value Fund
The Fund normally invests at least 65% of its assets in equity securities of mid-cap
companies - companies with market capitalizations of between $1 billion and $10
billion. The Fund invests in a variety of equity securities, including common and
preferred stocks, and warrants to purchase common and preferred stocks. The Fund
normally invests primarily in equity securities Schroders believes to be undervalued.
What Hedge Fund is?
A hedge fund is a fund that can take both long and short positions, use arbitrage, buy
and sell undervalued securities, trade options or bonds, and invest in almost any
opportunity in any market where it foresees impressive gains at reduced risk. Hedge
fund strategies vary enormously -- many hedge against downturns in the markets -especially important today with volatility and anticipation of corrections in overheated
stock markets. The primary aim of most hedge funds is to reduce volatility and risk
while attempting to preserve capital and deliver positive returns under all market
conditions.
The Mechanics
A Hedge Fund is a pool of capital for leveraging an investment portfolio that uses a
private partnership as its structural format. This structural format is made up of a
General Partner (investment manager), and Limited Partners (investors).
The SEC (Securities Exchange Commission) forbids hedge funds from advertising to
the general public, and only Accredited Investors are permitted to participate in the
fund.
The investment manager receives a fee for managing the fund, but only if it is
productive. This is called an "incentive-based fee" or a "performance-based fee".
Some funds also add a "watermark" or "hurdle" which the fund must outperform
in order for the General Manager to earn his fee. The General Manager's fee is
typically 1-2% of the total assets of the fund and he often has a large portion of his
own assets in the fund.
The General Manager may use any investment strategy or style he chooses, no matter
how risky or "volatile", to manage the fund's assets for greater return.
Although not all Hedge Funds actually "hedge', the name implies leveraging volatile
securities against securities that will cushion the risk. In other words, to "hedge" is
like playing two sides of the same coin so that if one side is losing, the other side wins
and you're more likely to at least "break even" and losses are better absorbed. The
General Manager's goal is to provide consistent fund performance regardless of the
market's climate
Benefits of Hedge Funds
Many hedge fund strategies have the ability to generate positive returns in both rising
and falling equity and bond markets. Inclusion of hedge funds in a balanced portfolio
reduces overall portfolio risk and volatility and increases returns. Huge variety of
hedge fund investment styles, many uncorrelated with each other, provides investors
with a wide choice of hedge fund strategies to meet their investment objectives.
Hedge funds have higher returns and lower overall risk than traditional investment
funds. Hedge funds provide an ideal long-term investment solution, eliminating the
need to correctly time entry and exit from markets. Adding hedge funds to an
investment portfolio provides diversification not otherwise available in traditional
investing.
Hedge funds are extremely flexible in their investment options because they use
financial instruments generally beyond the reach of mutual funds, which have SEC
regulations and disclosure requirements that largely prevent them from using short
selling, leverage, concentrated investments, and derivatives.
Mutual Funds Vs Hedge Funds
Mutual Funds
A portfolio made up of numerous stocks
and/or bonds
Managed by a Fund Manager, whose fees
are not dependant on whether the
investors profit.
The Fund Manager’s assets are less likely
invested in the fund.
Available to general public
Are not limited in the number of
investors who can invest in the fund.
Are limited by the SEC in the securities
or strategies used to be profitable.
Since these funds are built from so many
stocks, the bad ones often hold back the
good ones
Hedge Funds
A private pool of investment capital
organized into a limited partnership to
invest in a portfolio made up of a variety
of securities.
Managed by a General Partner, whose
fees are dependent on whether the
investors profit.
The General Partner’s assets are more
likely to be a large percentage of the fund
Available only to Accredited investors
Are limited by the SEC to 499 investors
(limited partners) who can invest in one
fund.
Are not limited in the securities or
strategies used to be profitable.
General Partners use hedging technique
to minimize risk and maximize return so
that a security that is underperforming is
balanced by a higher performer