FINANCIAL MARKETS AND INSTITUTIONS

ULAB SCHOOL OF BUSINESS

University of Liberal Arts Bangladesh

MUTUAL FUND

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 MUTUAL FUND
• A type of financial vehicle made up of a pool of
money collected from many investors to invest in
securities like stocks, bonds, money market instruments,
and other assets.
• Operated by professional security analysts and portfolio
managers, who allocate the fund's assets and attempt to
produce capital gains or income for the fund's investors.

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 Benefits of Mutual Funds
• 1. Liquidity intermediation
• 2. Denomination intermediation
• 3. Diversification
• 4. Cost advantages
• 5. Managerial expertise

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 Liquidity intermediation
• Mutual funds allow investors to buy and redeem at any time
and in any amount.
• Some funds are designed especially to meet short-term
transaction requirements and have no fees associated with
redemption, whereas others are designed for longer-term
investment and may have fees for early redemption.
• If you buy a CD or a bond, there can be early redemption
penalties or transaction fees imposed if you need money
before the securities mature.
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 Denomination intermediation
• Mutual funds enable small investors to access to securities
they would be unable to purchase otherwise.
• Through mutual funds, the small investors with low capital
can indirectly invest in assets that require large
denomination of minimum investment.
• By pooling money, the mutual fund can purchase these
securities on behalf of investors.

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 Diversification
• Investor’s risk can be lowered by holding a portfolio of
diversified securities.
• However, small investors buying stocks individually may
find it difficult to acquire enough securities in enough
different industries to capture the benefit of diversification.

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 Cost Advantages
• Institutional investors negotiate much lower transaction
fees when buying securities in bulk.
• By buying securities through a mutual fund, investors can
share in these lower fees.

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 Managerial Expertise
• Mutual funds can support full-time staffs of security
analysts and portfolio managers who attempt to achieve
superior investment results for their investors.
• Right selection of securities.
• Right amount of purchase.
• Right time of buying and selling.

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Open-End Mutual Funds Closed-End Mutual Funds
• An investment company sells shares • An investment company sells shares
directly to investors. through an initial public offering.
• Not listed in the exchange. Therefore, • Closed-end fund shares are traded on
doesn’t have a secondary market. an exchange.
• Early redemption at issuing • There is no provision for early
investment company is possible. redemption.
• The fund sells as many shares as • The number of shares in the fund is
investors wish to buy. The number of fixed as the number of IPOs is fixed.
shares in the fund can increase
without any limit.
• Open-end fund prices are fixed once • Closed-end funds trade at any price
a day at their net-asset value. during the day.

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 Net asset value (NAV)
• The price of each mutual fund share is called its NAV.
• The net asset value is the total value of the mutual fund’s
stocks, bonds, cash, and other assets minus any liabilities
such as accrued fees, divided by the number of shares
outstanding.
• When you buy and sell shares in the Open-end mutual fund,
you do so at the current NAV.

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Net asset value (NAV)

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 Change in NAV
The net asset value rises and falls as the value of the underlying assets changes.

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Change in NAV

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Mutual Fund Returns

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 Structure of mutual funds
• Mutual funds are organized with following parties:
– A Sponsor
– A Trustee
– An asset management company (AMC)

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 Fund Sponsor
• The Sponsor is the main body that establishes the Mutual
fund.
• Mutual Fund is recognized or branded by the name of the
Sponsor.
• The Sponsor can be compared to a promoter of a company.
• The Sponsor puts up the initial fund required to get the
mutual fund approved by Securities and Exchange
Commission.

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 Trustee
• The main role of a trustee is to ensure that the interest of
the shareholders is protected while making sure that the
mutual fund complies with all the regulations.

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 Asset Management Company (AMC)
• The AMC is the investment manager of the mutual fund.
• It takes care of the day to day operation of the mutual fund
• The AMC consists of the Chief Investment Officer, the fund
managers and analysts, who are together responsible for
managing the various schemes launched.
• The AMC is appointed either by the trustee or the Sponsor
after obtaining the approval of SEC.

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FLOWCHART FOR PURCHASE OF MF

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FLOWCHART FOR SURRENDER OF MF

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CLASSIFICATION OF MUTUAL FUNDS

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 Money Market Funds
• These funds invest in money market securities such as
commercial paper, repurchase agreements, or certificates of
deposit.
• The average maturity of these assets tends to be a bit more
than 1 month.
• Money market funds usually offer check-writing features.

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 Equity Funds
• Equity funds invest primarily in stock, although they may also hold fixed-
income or other types of securities.
• Equity funds commonly will hold between 4% and 5% of total assets in
money market securities to provide the liquidity necessary to meet
potential redemption of shares.
• Equity funds are traditionally classified by their emphasis on capital
appreciation versus current income.
• Thus, INCOME FUNDS tend to hold shares of firms with consistently high
dividend yields.
• GROWTH FUNDS are willing to forgo current income, focusing instead on
prospects for capital gains.
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 Sector Funds
• Some equity funds concentrate on a particular industry.
• Investment in a specific industry such as
– Biotechnology
– Utilities
– Energy
– Telecommunications, etc.

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 Bond Funds
• These funds specialize in the fixed-income sector.
• Within fixed-income sector, specialization is also possible.
• For example, various funds will concentrate on corporate
bonds, Treasury bonds, mortgage-backed securities, or
municipal (tax-free) bonds.
• Many funds also specialize
– by maturity, ranging from short-term to intermediate to long-term,
– by the credit risk of the issuer, ranging from very safe to high-yield,
or “junk,” bonds.
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 Hybrid Funds
• Hybrid funds combine stocks and bonds into one fund. The
idea is to provide an investment that diversifies across
different types of securities.
• Thus, if an investor found a hybrid fund that held the
percentage of stocks and bonds he wanted, he could own
just one fund instead of several.

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 Asset Allocation Funds
• These funds, like hybrid funds, hold both stocks and bonds.
• However, asset allocation funds may dramatically vary the
proportions allocated to each market in accord with the
portfolio manager’s forecast of the relative performance of
each sector.
• Hence these funds are engaged in market timing and are not
designed to be low-risk investment vehicles.

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 Index Funds
• An index fund tries to match the performance of a broad market
index. The fund buys shares in securities included in a particular
index in proportion to each security’s representation in that
index.
• For example, the Vanguard 500 Index Fund is a mutual fund that
replicates the composition of the Standard & Poor’s 500 stock
price index.
• Investment in an index fund is a low-cost way for small investors
to pursue a PASSIVE INVESTMENT STRATEGY—that is, to invest
without engaging in security analysis.
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