Chapter 4

Question 1

What are investment companies?

Answer 1

Investment companies pool funds from investors and invest them in a variety of securities or other assets, providing professional management and diversification.

Question 2

A _____ ____ is an open-end investment company that pools money from investors to purchase a diversified portfolio of securities.

Answer 2

mutual fund

Question 3

What is the difference between open-end and closed-end funds?

Answer 3

• Open-end funds issue or redeem shares at the NAV
• Closed-end funds do not issue new shares and are traded on the market, often at a premium or discount to NAV

Question 4

What are the main types of mutual funds?

Answer 4

The main types are money market funds, equity funds, sector funds, bond funds, balanced funds, index funds, and ESG funds.

Question 5

How do money market funds invest?

Answer 5

Money market funds invest in short-term, high-quality debt instruments like commercial paper and certificates of deposit (CDs).

Question 6

What is a bond fund?

Answer 6

A bond fund is a mutual fund that invests primarily in fixed-income securities like government or corporate bonds.

Question 7

______ _____concentrate their investments in a particular industry or geographic region.

Answer 7

Sector funds

Question 8

_____ _____aim to replicate the performance of a broad market index by investing in the same securities that compose the index.

Answer 8

Index funds

Question 9

How are mutual fund fees structured?

Answer 9

Mutual fund fees include:

• management fees
• front-end loads (fees paid when buying shares)
• back-end loads (fees paid when selling shares)
• operating expenses

Question 10

What is the Net Asset Value (NAV)?

Answer 10

NAV is the per-share value of a mutual fund, calculated by dividing the total value of the fund’s assets minus liabilities by the number of shares outstanding.

Question 11

How are mutual funds taxed?

Answer 11

Mutual funds have pass-through status, meaning taxes are paid by investors on income and capital gains, rather than by the fund itself.

Question 12

_________ _________ is the rate at which a fund buys and sells securities. High turnover can result in more frequent taxable events, leading to tax inefficiency.

Answer 12

Portfolio turnover

Question 13

What are Exchange-Traded Funds (ETFs)?

Answer 13

ETFs are funds that trade on stock exchanges and represent a portfolio of securities, offering continuous trading, lower fees, and tax advantages compared to mutual funds.

Question 14

How do ETFs differ from mutual funds?

Answer 14

• ETFs trade like stocks throughout the day and can be sold short or bought on margin
• Mutual funds can only be bought or sold at the end of the trading day based on the NAV

Question 15

What are the advantages of ETFs?

Answer 15

ETFs offer continuous trading, lower costs, tax efficiency, and the ability to be traded like stocks.

Question 16

What are the disadvantages of ETFs?

Answer 16

ETFs may trade at prices different from their NAV, and they typically involve brokerage fees for buying and selling shares.

Question 17

What is the typical performance of actively managed mutual funds compared to market indexes?

Answer 17

Actively managed mutual funds often underperform broad market indexes like the Wilshire 5000 Index.

Question 18

A “____ __ _____” is a mutual fund that primarily invests in other mutual funds rather than directly in securities.

Answer 18

fund of funds

Question 19

How are mutual funds sold?

Answer 19

Mutual funds are sold either directly by the fund underwriters or indirectly through brokers who receive commissions.

Question 20

What role does a fund’s prospectus play?

Answer 20

A mutual fund’s prospectus provides essential information about the fund’s objectives, fees, and management, helping investors make informed decisions.