Chapter 11 - Other investment classes Flashcards
Define closed-ended in the context of CISs
In a closed-ended scheme, such as an investment trust company (ITC), once the initial tranche of money has been invested the fund is closed to new money. After launch, the only way of investing in the ITC is to buy shares from a willing seller.
Define open-ended in the context of CISs
In an open-ended scheme, such as a unit trust or open-ended investment company, managers can create or cancel units in the fund as new money is invested or disinvested.
Outline the advantages of investment in CISs
DATE ME IQ DEED
- Diversification
- Access to larger more unusual investments
- Tax advantages
- Economies of scale
- Marketability better than underlying assets
- Expertise of investment managers
- Index tracking of certain investment index possible
- Quotes prices , makes valuation easier
- Discount to NAV - assets can be bought cheaply
- Expected returns higher - due to extra volatility from gearing
- Expense of direct investment avoided
- Divisibility - can sell part of holdings in the trust
Outline the disadvantages of investment in CISs
MCT
- Management charges incurred
- Loss of control - investor has no control over the individual investments chosen by managers
- There maybe Tax disadvantages ; such as withholding tax which cannot be reclaimed
List differences between Close Ended and Open Ended collective investment schemes
CRAVE MUG IT
Close Ended (ITC) | Open Ended(UT)
holding Cash | Extra cash not held | some UTs need to hold cash to maintain liquidity
Range of assets | Invest in a wider range of assets than UTs | Invest in a narrower range of assets than ITC
Asset price | Possible to buy asset at less than NAV |Buy assets at NAV
Volatility | Volatility of share price is greater than underlying asset bcz size of discount to NAV can change | Volatility of share similar to underlying asset
bcz unit price is fixed by direct reference to underlying assets
Expected return | Greater expected return bcz greater volatility | Less expected return bcz less volatility
Marketability | Marketability of CE funds < mask. of under. assets but may be higher if assets are unmarketable (e.g property) | Guaranteed marketability of units
Uncertainty (true NAV) | Uncertainty over true NAV per share especially if investments are unquoted | No uncertainty over true NAV
Gearing | Gearing makes shares more volatile than underlying equity | NO/limited gearing
Income | Dividends | Distribution
Tax | Company tax | Trust tax
Define a futures contract
A standardized, exchange-traded contract to buy (or sell) a specified asset at a specified price on a specified date in the future
Define a forward contract
A non-standardized, OTC traded contract to buy (or sell) a specified asset at a specified price on a specified date in the future
Features of a futures contract
Standardized
Exchange traded
Clearing house removes default risk Margin paid to clearing house More liquid than forward Quoted price Often closed out before delivery
Features of a forward contract
Tailor made, non-standardized
OTC traded
Default risk depends on counterparty No margin paid as traded OTC Less liquid than future No quoted price as traded OTC Often results in delivery
Outline the main uses of derivatives
- Providing protection against the risk of adverse market movements:
- using futures contacts to set the price of input goods in advance
- E.g. using a put option to protect asset portfolios against significant market value falls
2. Aiming to achieve higher returns / profits through speculation
3. Allowing financial institutions to alter the structures of their portfolios without needing to trade in the underlying assets
Outline the main reasons for investing overseas
LED
- matching Liabilities dominated in a foreign currency
- higher Expected return:
- As fair compensation for higher risks involved
- As a result of exploiting inefficiencies - Diversification by:
- Country
- Economy
- Stock market
- Currency
- Industry
- Company
What are the practical problems with overseas investment?
RED CLIPART REALM
Restrictions on foreign ownership of assets
Expertise needed - it costs more
time Delays
Currency fluctuation risk Language difficulties lack of quality Information Political instability Accounting differences Repatriation of funds becomes a problem Tax disadvantages - often results in higher overall tax
Regulation of market poor Expenses incurred Additional admin required Liabilities mismatched by currency lack of Marketability and liquidity
Outline three different ways of indirectly investing in overseas assets
- Investment in multinational companies based in the home market
- Investment in collective investment schemes specializing in overseas investment
- Investment in derivatives based on overseas asset
List factors to consider when investing in emerging markets
REWARD My CV PERCH
Restrictions on foreign investment Extra expenses Withholding tax that may apply Availability and quality of information market Regulation extent of additional Diversification generated
level of Marketability
Currency stability and strength
Volatility
degree of Political stability Expertise in markets Range of companies available Communication problems possibility of High economic growth
Reasons for discounted NAV in ITC’s
- Management charges
- Concerns over marketability
- Concerns over the quality of management
- Market sentiment/fashion (out of fashion by investors)
