ch. 12
Mutual funds can carry a number of different types of sales charges and fees. Briefly explain the following such expenses. (a) a front-end load (b) a back-end load (c) a 12(b)-1 fee
(a) A front-end load is a sales commission that is charged when an investor purchases a load fund. The charge can be substantial (up to 8 1/2 percent of the purchase price of the shares). (b) A back-end load is a sales commission that is charged when an investor sells shares in afund. The load may be as much as 7 1/4 percent, but back-end loads tend to decline each year, generally disappearing after 5 or 6 years. (c) 12(b)-1 fees are known as hidden loads. They are assessed each year the fund is owned, regardless of the fund's investment performance. They can amount to as much as 1 percent per year.
NAV. Fund Name. Inv. Obj. Max Init. Charge. EXP Ratio 10.28. Fund A. growth 4.75 .95 11.88. Fund B. aggr. grow 0.00 1.50 10.22. Fund C. income 6.50 .86 16.04. Fund D. income 1.00 1.00 (a) Which fund does NOT charge a front-end load? (b) Which fund can best be described as a low-load fund? (c) What can you say about Fund B with respect to the type of investments it most likely holds? (d) If you want to buy a fund and hold it for five years, which one of these funds should you purchase based on fund costs? Assume the funds earn a positive rate of return each year.
(a) Fund B does not charge a front-end load. (b) Fund D is a low-load fund. (c) Fund B probably holds small-cap stocks that are speculative and volatile in nature. The fund is seeking stocks that will have high capital appreciation. (d) Fund D appears to be the lowest cost fund for a five year period, assuming a positive rate of return each year.
Every mutual fund has a stated investment objective. Disclosure of the investment objective is required by the SEC, and is used to classify a mutual fund into one of several categories. Briefly explain the investment objective of each of the following categories. (a) growth funds (b) aggressive growth funds (c) equity-income funds (d) balanced funds
(a) Growth funds seek capital appreciation through long-term growth and capital gains. They offer little, if any, current income. (b) Aggressive growth funds seek capital gains and are considered speculative in nature. (c) Equity-income funds seek current income by investing in high-yielding common stocks. Capital preservation is a secondary objective. (d) Balanced funds hold a portfolio of both stocks and bonds for the purpose of generating both current income and long-term capital gains.
Which one of the following statements is correct concerning international funds?
A) A devaluation of the dollar causes returns on foreign investments to improve from a U.S. perspective.
Which of the following characteristics apply to exchange-traded funds (ETFs)? I. unlimited number of outstanding shares II. typically track the performance of some index III. market prices reflect demand for the fund rather than NAV. IV. shares are purchased from and redeemed by the investment company managing the fund.
A) I and II only
A type of fund that invests in real estate and/or mortgages is known as a
A) REIT.
Mutual funds often report returns as the growth of $10,000 over a period of time. These returns assume that
A) all dividends and capital gains are reinvested.
One drawback of investing in mutual funds is the
A) annual management fee.
One advantage gained by investing in a bond fund rather than in individual bonds is the
A) diversification among issuers.
Performance fees based on profits earned by the fund are typical of
A) hedge funds.
Closed-end funds
A) hold a portfolio whose size and content are fixed when the fund opens.
A fund that is designed to match the performance of a measure such as the S & P 500 or the Russell 2000 is called a(n)
A) index fund.
Target date funds
A) invest in more conservative assets as the target date approaches.
Automatic reinvestment of dividends and interest income
A) is a default option for most mutual funds.
An open-end investment company
A) is involved in all trades of its shares.
Which of the following statements best describes the legal organization of mutual funds?
B) Funds split their basic functions such as record keeping and investment decisions among two or more companies.
Advantages of index funds include which of the following? I. Low management fees. II. They outperform most actively managed funds. III. They have a balanced mix of stocks and bonds. IV. Securities in the portfolio are selected by professional analysts.
B) I and II only
Which of the following statements is(are) correct concerning exchange-traded funds (ETFs)? I. You can buy and sell ETFs any time during trading hours. II. ETFs are actively managed. III. ETFs have high portfolio turnover rates. IV. ETFs rarely distribute any capital gains.
B) I and IV only
Open end mutual funds may charge which of the following fees? I. A front-end load at the time of purchase. II. A back-end load when shares are sold. III. Annual fees based on marketing and distribution costs. IV. Annual performance fees up to 20% of increases in net asset value.
B) I, II, and III only
Value funds seek stocks I. with low dividend yields. II. with potential for growth. III. with low P/E ratios. IV. of newly discovered firms.
B) II and III only
Which of the following characteristics apply to closed-end mutual funds? I. unlimited number of outstanding shares II.transactions are between shareholders III. Market prices may be higher or lower than NAV. IV. Fund will repurchase shares at any time.
B) II and III only
Back-end loads
B) are charged if an investor sells his or her shares within the first few years.
The ability to automatically buy additional fund shares using the dividend income generated by the fund is called a(n)
B) automatic reinvestment plan.
Which type of mutual fund consists of both stocks and bonds with a combined objective of current income and long-term capital gains?
B) balanced
The conversion privilege provided by mutual fund families allows investors to
B) be more aggressive since they can re-allocate their funds when market conditions change.
The primary objective of an equity-income fund is
B) current income with capital preservation.
One characteristic of 12(b)-1 charges is that they are payable
B) each year regardless of the performance of the mutual fund.
One characteristic of most index funds is that such funds typically
B) have a very low-cost structure with respect to management fees and transaction fees.
Investors in hedge funds have the legal status of
B) limited partners.
Funds that invest in a portfolio of companies from the same or closely related industries are known as
B) sector funds.
A majority of funds managed by certain financial services companies appears to outperform their benchmarks because of
B) survivorship bias.
Investors interested in predictable cash flow from their investments should consider funds that offer
B) systematic withdrawal plans.
Two mutual funds are quoted as follows. Fund A: NAV=17.13. Offer Price=18.18 Fund B: NAV=19.03. Offer Price=19.03 Given these quotes, which one of the following is true?
C) Fund B is a no-load fund.
Typical services offered by mutual funds include I. automatic reinvestment plans II. automatic investment plans III. automatic fund conversion as investment goals change IV. automatic withdrawal plans
C) I, II and IV only
Which of the following are advantages of international funds? I. greater diversification II. potentiallyhigherreturns III. income is taxed at a lower rate IV. ease of investing compared to buying individual foreign securities
C) I, II and IV only
Which of the following statements is(are) correct concerning hedge funds? I. They are highly regulated. II. They hedge all positions to limit risks. III. Management and other fees are extremely low compared to other types of funds. IV. Access is limited to institutions and high net worth or high income individuals.
C) IV only
Which one of the following statements concerning mutual funds is correct?
C) The mutual fund industry is the largest financial intermediary in the United States.
Madison believes that the leisure industry (resorts, travel, restaurants, etc.) is about to experience extraordinary growth because baby boomers are entering their retirement years. She should invest in
C) a sector fund.
Risk-seeking investors seeking maximum capital appreciation with little, if any current income, should invest in
C) aggressive growth funds.
Government securities money funds are structured to eliminate
C) default risk.
One characteristic of bond funds is the
C) fluctuation in value in response to changing interest rates.
The commission charged when shares of an open-end mutual fund are purchased is called a
C) front-end load.
Socially responsible funds are distinguished from other mutual funds because they
C) invest only in companies that meet specified moral, ethical, or environmental standards.
The net asset value of a mutual fund increased from $12.03 to $13.53, but its price per share increased by only $1.26. This information indicates that the fund
C) is a closed-end fund.
A REIT or real estate investment trust may invest in all of the following EXCEPT
C) stocks of companies engaged in construction and building materials.
Nearly all mutual funds operate as regulated investment companies. This means that
C) they do not pay taxes on their income.
Explain why closed-end funds can sell at prices other than the fund's NAV.
Closed-end funds have a set amount of shares outstanding. The market price is determined by the economic forces of demand and supply, which are in turn affected bychanges in the NAV, the market outlook, and investor expectations. Beyond normalcompetitive pressures, other factors that lead to discounts (and premiums) include the fund's relative performance, its annual payout or yield, the name recognition of the fund's manager, fund asset liquidity, and/or a substantial amount of unrealized appreciation in the fund's portfolio.
Compared to yields on general purpose money funds, the yields on tax-exempt money funds are
D) 20 to 30 percent lower.
Which of the following are advantages offered by mutual funds? I. professional portfolio management II. dividend reinvestment III. consistent returns in excess of the overall market rate of return IV. modest capital outlay for investors
D) I, II and IV only
Aggressive mutual funds often employ investing strategies such as I. short selling. II. margin trading. III. option trading. IV. hedging.
D) I, II, III and IV
Investors use mutual funds for which of the following reasons? I. to accumulate wealth II. to minimize risk III. as a speculative vehicle IV. as a storehouse of value
D) I, II, III and IV
Which type of fund is always passively managed?
D) an index fund
Automatic reinvestment plans
D) are an excellent way to accumulate wealth through disciplined investing.
One type of mutual fund spreads investors' money across equity markets, bond markets,and money markets. Moreover, as market conditions change, the amount of money invested in each market sector will change. This type of mutual fund is known as a(n)
D) asset allocation fund.
Mutual fund investors delegate all of the following decisions to the fund's managers EXCEPT
D) how to allocate investments among different classes of assets such as stocks, bonds, cashand real estate.
An investor who wants to use mutual funds as a storehouse of value should invest in
D) money funds and short-term bond funds.
During the 75-year market cycle of 2009-2014, in which category of funds did a majority of funds outperform the market average?
D) none of the above
Investors who seek triple (federal, state, and local) tax-free income should invest in ________ bond funds.
D) single-state municipal
An aggressive growth mutual fund is least likely to purchase a stock
D) with a high dividend yield.
A closed end fund is selling at a premium when the NAV exceeds the market price. T/F
False
Closed-end funds and exchange-traded-funds (ETFs) are both liquidated by selling them on the open market. T/F
False
Compared to stocks, mutual funds offer investors a relatively limited range of choices. T/F
False
Dividends and capital gains earned by mutual fund investors are taxed when the shares are redeemed. T/F
False
Funds that charge higher sales commissions. consistently earn above average rates of return. T/F
False
Hedge funds are subject to the same regulations and disclosure requirements as mutual funds. T/F
False
In spite of lower fees, index funds underperform actively managed funds in most years. T/F
False
Index fund investors should purchase at least two funds with the same objective to assure proper diversification. T/F
False
Investors who buy or sell exchange-traded funds will do so at a price based on the closing price for the day. T/F
False
Morningstar, a leading. mutual fund industry publication, classifies funds by the number of shareholders and the total amount of money invested in the fund. T/F
False
Mutual funds are popular instruments for speculation and short-term trading. T/F
False
Mutual funds tend to outperform the market. T/F
False
Systematic withdrawal plans from mutual funds usually require a minimum investment of at least $100,000. T/F
False
The maximum average maturity of the holdings within a money market account must be 6 months or less. T/F
False
The mutual fund market is dominated by funds that invest in diversified bond portfolios. T/F
False
The mutual fund, and not the investor, is responsible for all income taxes on capital gains and dividends earned by the fund. T/F
False
The primary objective of growth mutual funds is capital appreciation with a high level of current income. T/F
False
The purchase price of a closed-end mutual fund is equivalent to the net asset value of the fund. T/F
False
What are some of the advantages of investing through mutual funds? Name at least three.
Mutual funds offer professional management and securities selection. They offer a level of diversification that might be too costly for the small or beginning investor to achieve. Mutual funds offer services such as automatic dividend reinvestment and exchange privileges.
What are the primary disadvantages of owning mutual fund shares?
The primary disadvantages are the fund costs, the lack of continuous trading and pricing (investors buy or sell at the closing price for the day), and the lack of control overcapital gain distributions.
A closed-end fund with an NAV of $9.60 and a market price of $10.25 is selling at a premium of 6.8%. T/F
True
Automatic investment plans makes it easier for investors to save money. T/F
True
Index funds merely attempt to match the performance of some benchmark, not to outperform it. T/F
True
Investors purchase shares in an open end mutual fund directly from the fund. T/F
True
Investors should select mutual funds that match their personal investment goals and provide the services they desire. T/F
True
Investors using the conversion privilege to move money from one mutual fund to another within the same family may incur a tax liability. T/F
True
Like ordinary stocks, exchange -traded funds (ETFs) can be sold short. T/F
True
Most exchange-traded funds are index funds. T/F
True
Mutual fund fees are disclosed in the fund prospectus. T/F
True
Mutual funds and exchanged-traded funds are available to meet the goals of both aggressive and conservative investors. T/F
True
Mutual funds are used extensively as retirement investments. T/F
True
Mutual funds provide an affordable way to diversify a portfolio. T/F
True
Socially responsible funds only hold stocks of companies that meet the fund's ethical guidelines. T/F
True
The conversion privilege allows investors to switch from one fund to another without fees if and only if the funds are managed by the same company such as Fidelity or Vanguard. T/F
True
The discount or premium on a closed-end mutual fund can be as much as 25 percent. T/F
True
The net asset value is the price per share an investor will pay to acquire shares in a no-load, open-end fund. T/F
True
The number of shares available in an exchange-traded fund (ETF) can be increased or decreased according to demand for the shares. T/F
True
To participate in an automatic investment plan, investors must allow the investment company to have access to a bank account or their paycheck. T/F
True
Trading in closed-end investment companies takes place between investors in the open market. T/F
True
When an investor buys shares in a mutual fund, he or she becomes a part owner of a portfolio of securities. T/F
True
When investors liquidate an exchange-traded fund (ETF) they have held for less than 6 months, they will not pay a redemption fee, but they will pay a commission. T/F
True
