Chapter 11: Other Investment Classes Flashcards
What is a collective investment scheme (CIS)?
1> Collective investment schemes provide structure for the management of investment on a grouped basis
2> They provide the opportunity for investors to achieve a wide spread of investments and therefore to lower portfolio risk
3> Managers of such schemes are likely to have management expertise in the underlying investments or asset classes, which is otherwise available only to the largest institutional investors
What are regulations typically covering CIS?
> Regulations vary from country to country and different types of schemes will be subject to different rules.
> Regulations typically cover aspects such as:
1> the categories of assets that can be held
2> whether the unquoted shares can be held
3> maximum level of gearing
4> any tax relief available
What is a closed-ended scheme?
> Once the initial tranche of money has been invested, the fund is closed to new money
> After launch , the only way of investing is to buy units from a willing seller
> e.g. investment trust company
What is an opened-ended scheme?
> Managers can create or cancel units in the fund as new money is invested or disinvested
> e.g. unit trust
What is the advantages and disadvantages of a collective investment scheme from the perspective of the investor?
Advantages
1> Ability to achieve diversification even with small amounts of investment
2> Access to a specialist expertise of the investment management
3> Access to larger/unusual investments than could be secured directly e.g. property
4> benefit from lower dealing costs than would be available if undertaking direct investment
5> Holdings likely to be more marketable than underlying assets
6> Holdings are divisible
7> Can be used to track an investment index
8> Possible tax advantages
DISADVANTAGES
1> Loss of control over investments
2> Management charges incurred
3> Possible tax advantages
Advantages and disadvantages of investing in equities via CIS for institutional investors
ADVANTAGES
1> Access to specialist expertise in new sector
2> Convenient and quick way to get exposure to new sectors
3> to enhance expected returns i.e.
- exposure to gearing (more limited to UTs)
- narrowing of the discount to NAV (ITCs only)
4> Diversification from direct investments, e.g. different underlying investments and management
5> possible tax advantages
DISADVANTAGES
1> Loss of control over investments
2> Higher charges as have to pay for CIS expertise
3> Possible tax advantages
What are the key feature of investment trusts?
What is an investment trust?
0> Stated investment objective
1> Are a form of closed-ended fund
2> They are public companies whose function is to manage shares and other investment
3> can raise both loan and equity capital (gearing)
4> IT shares are quoted on a stock exchange
SHARE PRICE
1> Price of a share in an ITC is determined by supply and demand
2> Share price often stands at a discount to net asset value per share (NAV)
MAIN PARTIES INVOLVED
1> Board of directors
- responsible for the direction of the company
2> Investment managers
- responsible for day-to-day investment decisions
3> Shareholders -
- sell and buy shares
What are the key feature of Unit trusts?
WHAT IS A UNIT TRUST?
1> An open-ended investment vehicle
2> whereby investors can buy units in an underlying pool of assets from the trust manager.
3> If there is demand for units, the managers can create more units for sale to investors
4> If there are redemptions (sales by investors), the managers will buy back the units offered to them
5> Have limited power to use gearing
6> They are trusts (and so they are governed by trust law)
UNIT PRICE
1> Investors buy units in UT, which are priced at net asset value per unit
2> Complications include:
- whether to use the bid or offer prices of underlying assets
- How to allow for the expenses the unit trust incurs in buying and selling underlying assets
- how to adjust the unit price to apply any charges to investors
- how to round the answer
THE MAIN PARTIES INVOLVED
1> Management company
- does all the work, sets up the trust, get authorization from the relevant authorities, advertises the trust, carries out all the necessary administration, and invest the funds
- Aim is to make profit from the charges levied
- e.g. Many life offices
2> Trustees
- Ensure managers obey the trust deed and hold the assets in trust for the unit holders
- Oversee the pricing of units
- fees of trustees are paid by the unit trust managers
- Often insurance companies or large banks
3> Investors
- buy units in the trust, hoping that they turn out to be a good investment
What is Open-ended investment company (OEIC)?
> They are similar to investment trusts in terms of corporate governance, but have open-ended characteristics like unit trusts
> Managers create shares when investors invest new money
and, must redeem these shares when shareholders request to sell their share
> “single price”
Differences between the closed-ended and open-ended CISs
1> Investment in closed-ended funds are often less marketable than their underlying assets
> Whereas marketability of investments in an open-ended funds is guaranteed by the manager
2> Gearing of closed-ended funds can make their share price more volatile than that of the underlying equity
- Most open-ended funds cannot be geared and those that can may only be geared to a limited extent
3> It may be possible to buy assets at less than the net asset value (NAV) in a closed-ended fund
4> The increased volatility of closed-ended funds implies a higher expected return
5> Share in closed-ended funds are also more volatile than the prices of the underlying equities because of the size of the discount can change
- The volatility of unit prices in an open-ended fund should be similar to that of the prices of the underlying assets
6> At any point in time there may be uncertainty as to the true level of net asset value per share of a closed-ended fund, especially if the investments are unquoted
7> Closed-ended funds may be able to invest in a wider range of assets that unit trusts
8> They may be subject to tax at different times
Suggest possible reasons for a share price to at a discount to NAV of ITCs
1> Management charges - will have the effect of lowering the value of the share
2> Concerns over marketability - small ITC investing in large companies will be a less marketable investment than the underlying asset
3> Concerns over the quality of management - if the investment managers are poorly rated - pay less
4> Market sentiments/ fashion - ITCs may be out of fashion
What is a futures and forward contract?
A forward contract is a non-standardised, over-the-counter traded contract between two parties to trade a specified asset on a set date in the future at a specified price
A futures contract is a standardised, exchange tradable contract between two parties to trade a specified asset on a set date in the future at a specified price
What does having a long position mean?
> Having a long position means having a positive economic exposure to the asset
Takes delivery of the assets -> future and shorts
What does having a short position mean?
> Having a negative economic exposure to the asset
short party is contracted to deliver the asset - will be short of the asset
Define the following
0> Option
a. Call option
b. Put option
c. Option writer
d. Option premium
e. Buying a put
f. Selling a call
g. Exercise price
h. Traded option
i. American option
j. European option
0> Option - is the right, but not the obligation, to buy or sell an asset
a> Call option - is the right, but not an obligation, to buy a specified asset for a specified price on a set date or dates in the future
b> Put option - is the right, but not an obligation, to sell a specified asset for a specified price on a set date or dates in the future
c> Option writer sells options
d> Option premium - the price paid to the writer for an option
e> Buying a put - costs the purchaser money and allows them to choose whether or not to sell the underlying asset. Sell when market price is less than the strike price
f> Selling a call - option seller receives money and must sell the underlying asset iff, the holder of the option wants to
- forced to sell when market price exceeds the exercise price
g> Exercise price - The price at which an underlying security can be sold to the issuer of an option (for a put)
- The price at which the underlying security can be purchased from the writer or issuer of an option
h> Trade options - are options contract with standardised features actively traded on organised exchanges
i> European option - is an option that can only be exercised at expiry
j> American option - is an option that can be exercised on any date before its expiry
