INVESTING IN MUTUAL FUNDS

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INVESTING INMUTUAL FUNDS
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Mutual Fund Basics
INVESTORS pool their money and
buy shares in the MUTUAL FUND.
FUND MANAGER selects and purchases a variety of
investment instruments.
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Advantages of Mutual Funds

• Diversificationrisk is lowered one share buys a
  slice of everything in the fund.
• Professional managementpay someone else to make
  investing decisions.
• Financial returnsrelatively attractive returns
  over the long term.
• Convenienceeasy in out, small outlays, help
  with record keeping.

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Types of Investment Companies

• Open-End Investment Companies (mutual funds)
• Dominant type of investment company
• Shares purchased from and sold back to company.
  Shares are not traded among individual investors.
  
• New shares issued as money flows in.
• NAV is usually the quoted price.

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• Net Asset Value (NAV)

• Current value of all securities held in funds
  portfolio.
• Open-end funds buy back their own shares at NAV.

NAV Current market price of all fund
assets (Less any liabilities) Divided by the
number of outstanding shares
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• Closed-End Investment Companies

• Operate with a fixed number of shares
  outstanding.
• All trading is done between investors on the open
  market.
• Shares frequently trade at a discount or premium
  to net asset value.

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• Exchange-Traded Funds

• Typically structured as index funds.
• Spiders based on SP 500
• Diamonds based DJIA
• Qubes based on Nasdaq 100
• Trade on listed exchanges like closed-end funds.
• Numbers of shares outstanding can be increased or
  decreased, depending on demand, like open-end
  funds.

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• Unit Investment Trusts

• Usually sold by brokerage houses.
• Investors purchase a share in an unmanaged pool
  of investments.
• No trading of securities within the portfolio
  once the trust assets have been purchased.
• Tend to have relatively high transaction costs
  and yearly fees.

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• Real Estate Investment Trusts (REITs)

• Closed-end investment companies whose trust
  assets are limited to real estate investments.
• Offer a more diverse and marketable way to invest
  in real estate.
• Equity or property REITs invest in properties
  mortgage REITs invest in mortgages hybrid REITs
  invest in both.

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Mutual Fund Cost Considerations

• Loads sales commissions
• Front-end load funds (or simply "load funds")
  charge a commission when shares are purchased.
• Low-load funds hold commissions to 23 when
  shares are purchased.
• Back-end load funds charge a commission when
  shares are sold.

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• No-Load Fundsno fee to purchase or redeem shares
  and low or no 12(b)-1 fees.

• 12(b)-1 Feesannual fees for marketing and
  promotion.
• Management Feesannual fees charged by all funds
  to pay the fund manager.

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• Maximum allowable fees

• Total sales charges and fees cannot exceed 8
  1/2.
• Of this amount, 12(b)-1 fees cannot exceed 1.
• Funds cannot call themselves no-load if their
  12(b)-1 fees exceed 0.25.

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• Keep Track of Fees!

• Funds are required to disclose all fees in their
  prospectus.
• Even no-load funds can have high annual expense
  ratios and/or 0.25 12(b)-1 fees.
• Fees affect your return, and annual fees will be
  collected regardless of the performance of the
  fund.

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Types of Funds

• Growth
• Aggressive Growth
• Value
• Equity-Income
• Balanced
• Growth Income
• Bond

• Money Market
• Index
• Sector
• Socially Responsible
• International
• Asset Allocation

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Services Offered by Mutual Funds

• Automatic Investment Planmutual fund
  periodically drafts money from investor's bank
  account.
• Automatic Reinvestment Planfund earnings and
  distributions automatically reinvested in
  additional shares of fund.
• Regular Incomefund automatically pays out to
  investor predetermined amount periodically.

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• Conversion Privilegesallow shareholders to
  easily move from one fund to another within the
  fund family.

• Retirement Plansfunds set up and administer
  retirement plans for self-employed individuals.

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Making Mutual Fund Investments

• Selecting a Mutual Fund
• Match the fund's objectives with your investment
  objectives.
• Consider your tolerance for risk and your
  investment time horizon.
• Read the prospectus!

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• Assess the fund's services.

• Check the fees charged.
• Consider the fund's longer-term returns as well
  as its shorter-term returns.
• Refer to Exhibit 13.8 concerning mutual fund
  facts every investor should know.

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Mutual Fund Performance

• Returns consist of
• 1) dividend/interest income earned by the fund
  assets
• 2) realized capital gains distributions from sale
  of assets within the fund
• 3) change in mutual fund's share price.
• Past performance reveals success of fund managers
  but does not guarantee future returns!

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MEETING RETIREMENT GOALS
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Pitfalls in Retirement Planning

• Starting too late.
• Putting away too little.
• Investing too conservatively (especially when you
  are younger).

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Retirement Planning
1. Set Your Goals

• At what age do you want to retire?
• Start early in your career devoting money toward
  your retirement goals.

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2. Estimate Your Needs

• Determine household expenditures.
• Estimate income.
• Consider the effects of inflation.
• Decide how you will provide for the difference
  between income and needs.

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3. Establish Investment Program

• Create systematic savings plan.
• Identify appropriate investment vehicles.
• Consider tax implications.
• Develop investment plan.

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Sources of Retirement Income
Other
Pensions
Government Assistance, including Social Security
Income-Producing Assets
Government still provides the largest portionrigh
t now.
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Social Security

• Benefits are provided by payroll taxes you and
  your employer pay (you pay both halves if you are
  self-employed).
• Amount of benefits may be insufficient by the
  time you retire.
• Think of it as an insurance system rather than a
  retirement plan.

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Why SS may be in trouble

• The number of people retiring is increasing.
• The number of people who work and pay taxes for
  retirement benefits is decreasing.
• Eventually more money may be flowing out of the
  system than is flowing in.

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Pension PlansandRetirement Programs

• Employer-sponsored retirement programs
• Self-directed retirement programs

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Employer-Sponsored Programs

• Participation requirements are you eligible to
  participate in the program?
• Contributions am I required to contribute to my
  own plan or not?
• Vesting how long before I can take the money
  with me if I leave?
• Retirement age when can I retire?
• Qualifying does it qualify for tax
  deductibility?

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Defined Benefit vs. Defined Contribution Plans

• Defined Contribution company guarantees a
  contribution, but not a return on the
  contribution or a retirement benefit.
• Defined Benefit company guarantees the benefit
  in retirement despite good or bad performance of
  the pension fund.

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Supplemental Plans Allow employees to increase
retirement funds. These plans are often
voluntary, and contributions may be tax
deductible.

• Profit-sharing plans employees benefit from
  company's earnings.
• Thrift and savings plans employer contributes
  to employee's fund. Employee contributions NOT
  deductible.
• Salary reduction plans employee contributes
  part of salary contributions tax deductible
  employer may also contribute as in a 401(k), 457,
  or 403(b).

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Self-Directed Retirement Programs Allow
individuals and the self-employed to set up
tax-deferred retirement plans for themselves and
their employees.

• Keogh Plans for professionals or small business
  owners and employees.
• SEP Plans for professionals or small business
  owners with few or no employees simple to
  administer.
• IRAs for any working American other
  self-directed plans may allow greater
  contributions.

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Types of IRAs Each year, you must EARN at least
as much as you contribute to an IRA.

• Traditional Tax-Deductible IRA for those with
  no employer-sponsored plan or with incomes below
  a certain level.
• Traditional Non-Deductible IRA for those with
  an employer-sponsored plan and incomes over a
  certain level.
• Roth IRA contributions not deductible for
  those with incomes below a much higher level,
  regardless of employer-sponsored plans.

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More on IRAs

• Maximum total yearly contribution to all IRAs
  combined is 4000 (as of 2005) or your earned
  income (whichever is less).
• Non-working spouse can also contribute up to
  4000 (as of 2005).
• An IRA is not an investment it is a
  tax-sheltered account. A variety of types of
  investments (ex bank CDs, mutual funds) can be
  held in an IRA account.
• Returns on your IRA depend on your choice of
  investments.

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Coverdell Education Savings Accounts

• Earnings grow tax free for future education costs
  of a child or grandchild.
• Contributions are NOT deductible, but withdrawals
  are tax and penalty free for qualified expenses.
• Withdrawals must be made by the time beneficiary
  is age 30.
• 2000 (as of 2003) maximum yearly contribution.

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For Qualified Retirement Plans in General

• Contributions grow tax free.
• If contributions were initially tax deductible,
  money taxed as current income when withdrawn.
• In general, you must be 59 1/2 to start taking
  distributions.
• Early withdrawals are subject to a 10 penalty
  plus income taxes.
• When moving accounts, have transfer made directly
  from one custodian to another.

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Annuities

• Tax-sheltered investment vehicles administered by
  life insurance companies.
• An agreement to make contributions now in return
  for a series of payments later.
• Contributions NOT tax deductible.

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Expected amounts, Plug in expected return and
standard deviation. See ranges.

• Long range probability estimates