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Mutual Fund Investors: Divergent Profiles

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Mutual Fund Investors: Divergent Profiles Alan Palmiter & Ahmed Taha Wake Law 01 Oct 07 A pop quiz Mutual funds are primarily owned by: Individuals on their own ... – PowerPoint PPT presentation

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Title: Mutual Fund Investors: Divergent Profiles


1
Mutual Fund Investors Divergent Profiles
Alan Palmiter Ahmed Taha Wake Law 01 Oct 07
2
A pop quiz
3
  • 4. Warren Buffet predicts that annual US stock
    returns over the next 10 years will be
  • 6.5
  • 9.6
  • 12.3
  • 21.7
  • 5. Past performance of stock funds generally
    predicts future returns.
  • Yes
  • No
  • Only low-performing funds
  • Mutual fund investors say they pay attention more
    to fees than to performance.
  • True
  • False
  • Mutual funds are primarily owned by
  • Individuals on their own
  • Individuals with retirement accounts
  • Institutional investors
  • Mutual funds mostly invest in
  • Stocks
  • Bonds
  • Notes (money market)
  • 3. What have been annual returns (1926-2004)
  • Small-cap stocks
  • Large-cap stocks
  • Corporate bonds
  • Treasury bills

4
  • 7. As a mutual fund investor, you are entitled
    to
  • Prospectus (before you invest)
  • Annual report (showing fund performance)
  • Statements (breakdown of expenses / fees /
    trading costs)
  • 8. Mutual funds only impose a sales charge at the
    time you invest.
  • True
  • False
  • 9. Annual rate that average stock fund sells and
    replaces stock (turnover) in its portfolio
  • 6
  • 56
  • 90
  • 153
  • 10. What is a no-load fund?
  • An unleveraged fund
  • A fund without sales charges
  • A fund without trading costs
  • A fund without withdrawal fees
  • 11. Think about your own largest mutual fund.
    What is --
  • Your current balance
  • Funds investment objectives
  • Funds sales charges, expense ratio, trading
    costs
  • Funds performance last year
  • 12. Consider your car/vehicle
  • Its make, model, year
  • Its cost, MSRP, total miles, safety rating, gas
    efficiency
  • You get our point

5
US mutual fund market
6
US Households (112 million) Own mutual funds (55
million / 49)
Demand-side
Retirement account 54
On own 46
Broker 79
Direct 29
IRAs 48
DC plans 52
Stocks 60
Money Mkt 23
Bonds 17
Mutual funds (11.3 T)
Fund Types
7
Supply-side mutual fund market
8
Mutual fund market
Next 15 groups (35)
Top 10 groups (38)
Rest (27)
Financial retirement market
Mutual Funds (27)
9
Asset classes (risk/return primer)
10
Asset Classes (1926-2004) Average Return Standard Deviation
Small Company Stocks 12.7 33.1
Large Company Stocks 10.4 20.3
Long-Term Corporate Bonds 5.4 9.3
Treasury Bills 3.7 3.1
11
12.7
Effect of investing 10,000 for 20 years
3.7
12
(No Transcript)
13
Mutual fund investor profiles (demand-side)
14
Industry profile
15
ICI Investor Preferences (2006)
16
ICI Investor Preferences (2006)
17
The 90 million fund shareholders demand for
investment performance and services at a
competitive level of fees and expenses
continuously impacts mutual funds.
Paul Schott Stevens ICI President
18
SEC portrait
William O. Douglas The investors advocate
19
Investors will benefit from a uniform fee table
and managements discussion of fund
performance SEC (1983)
The number/types of funds has proliferated,
increasing need for information to help investors
compare and contrast alternatives. SEC (Mar 29,
1995)
Many investors find prospectuses unintelligible,
tedious, and legalistic Investors need to be
provided with clear and comprehensible
information. SEC (Feb 27, 1997)
Funds may resort to advertising techniques that
create unrealistic investor expectations. SEC
(Mar 17, 2002)
20
  • Prospectus VFINX
  • Disseminated
  • after investment / then once annually
  • Including electronically / filed SEC
  • Disclosure
  • Investment strategies
  • Risks (narrative)
  • Performance (1/5/10 years)
  • Expenses (sales charge, 12b-1 fees, mgmt fees)
  • Turnover rate
  • Effect
  • Omissions in fund literature not fraudulent, if
    info in prospectus

Fund comparer (SEC website / NASD)
21
  • Statement of
  • Additional Information
  • Not disseminated
  • Available to investors (incorporated by ref into
    prospectus) / file SEC
  • No fraud liability if in SAI
  • Disclosure
  • Fund organization
  • Investment policies / limitations
  • Management of fund
  • Proxy voting policies
  • Financial statements
  • Can cover multiple funds

Only disclosure of trading costs (brokerage
commissions)
22
  • Annual and
  • semi-annual statements
  • Disseminated
  • Send semi-annually to all investors
  • Available on SEC website
  • Disclosure
  • Annually, MDFP (whats affecting performance,
    line graph comparison to relevant index)
  • Financials (including expenses, turnover rate)
  • List of portfolio holdings (now summary of
    significant holdings, chart of category breakdown)

Focus on performance, not expenses
23
  • Advertising
  • Regulated
  • SEC Rule 482 must state where can get
    prospectus
  • NASD Rule 2210 must file with Advertising Reg
    Dept
  • Disclosure
  • Can include performance data (standardized
    format)
  • Info beyond prospectus
  • Required disclaimer
  • Consider investment objectives, risks, charges,
    expenses
  • Past performance does not guarantee future
    results

No longer does info need to be from prospectus
24
The Commission should not be the arbiter of the
appropriate level of fund fees. Whether fund
fees are too high or too low is a question that
we believe must be answered by competition in
the marketplace, not by government intervention.
Arthur Levitt SEC Chair (1993-2001)
25
SEC attention to ICI, academic research
26
SEC citations (footnotes / rulemaking releases)
Topic Comment letters ICI comments News stories Non-academic research ICI research Academic research
Prospectus disclosure (1998) 78 3 19 1 7 0
Fund profile disclosure (1998) 256 1 2 0 4 0
Advertising rules (2003) 29 0 2 0 1 0
Compliance programs (2003) 47 26 1 0 0 0
Portfolio manager (2004) 34 3 0 0 0 1
2 fee for redemption (2005) 400 10 5 0 2 6
AARP survey of MF investors Textbook,
Regulation of Investment Companies
Articles/studies on trading abuses (finance
journals, SSRN)
27
Academic portrait
How many colors do you see?
28
Investors Behavior
  • Behavior
  • Investors chase hottest funds
  • Convex Flow-Return Relationship
  • Reality
  • Little evidence of returns persistence past
    returns generally dont predict future returns
  • Chase Returns
  • Ignore Expenses
  • (but not Loads)
  • Ignorant of Objectives and Holdings
  • Inattentive to Risk

29
Investors Behavior
  • Chase Returns
  • Ignore Expenses
  • (but not Loads)
  • Ignorant of Objectives and Holdings
  • Inattentive to Risk
  • Behavior
  • Expense level generally doesnt affect fund
    choices
  • More sensitive to loads
  • Reality
  • Annual expenses greatly affect investors wealth

30
Value of 15,500
336,730
Annual Return
232,104
159.429
YEAR
31
(No Transcript)
32
Investors Behavior
  • Chase Returns
  • Ignore Expenses
  • (but not Loads)
  • Ignorant of Objectives and Holdings
  • Inattentive to Risk
  • Behavior
  • Most investors are unaware of their funds
    objectives or holdings
  • Implication
  • Mismatch between investors objectives and funds
    objectives

33
Investors Behavior
  • Chase Returns
  • Ignore Expenses
  • (but not Loads)
  • Ignorant of Objectives and Holdings
  • Inattentive to Risk
  • Behavior
  • Expense level generally doesnt affect fund
    choices
  • Implication
  • Mismatch between funds risk and investors risk
    tolerance

34
Modest proposals
  • (1) Point of sale disclosure
  • (2) Post-purchase statements

35
  • Fund XYZ performance
  • Inv return Expenses/costs Net
    return
  • 1-year 4.5 2.1 2.4
  • 5-years 7.6 2.4 5.2
  • 10-years 11.5 1.9 9.6
  • 20-years 8.9 1.6 7.3

36
  • Your statement (Fund XYZ)
  • Beginning balance 10,000
  • Investments 2,000
  • Withdrawals --
  • Investment return 850 7.7
  • Expenses
  • Sales charge 60 0.5
  • Adm/advisory fees 140 1.3
  • Trading costs 80 0.7
  • TOTAL 280 2.5
  • Net return 570 5.2
  • Ending balance 12,570

Your fund has about average expenses, but 40 of
other similar funds have lower expenses. You
could be saving up to 2.2 on fund expenses.
Expenses (compare to other comparable funds)
66 - lower expenses 34 - higher
expenses
2.5 XYZ
6.3
0.3
37
The end
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