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Investments

Zvi Bodie, Alex Kane, Alan J. Marcus

Chapter 4

Mutual Funds and Other Investment Companies - all with Video Answers

Educators

Chapter Questions

02:29

Problem 1

Would you expect a typical open-end fixed-income mutual fund to have higher or lower operating expenses than a fixed-income unit investment trust? Why?

Penny Riley
Penny Riley
Numerade Educator
01:38

Problem 2

What are some comparative advantages of investing in the following?
a. Unit investment trusts.
b. Open-end mutual funds.
c. Individual stocks and bonds that you choose for yourself.

Rashmi Sinha
Rashmi Sinha
Numerade Educator

Problem 3

Open-end equity mutual funds commonly keep a small fraction of total investments in very liquid money market assets. Closed-end funds do not have to maintain such a position in "cashequivalent ${ }^{-1}$ securities. What difference between open-end and closed-end funds might account for their differing policies?

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02:39

Problem 4

Balanced funds, life-cycle funds, and asset allocation funds all invest in both the stock and bond markets. What are the differences among these types of funds?

Penny Riley
Penny Riley
Numerade Educator

Problem 5

Why can closed-end funds sell at prices that differ from net asset value while open-end funds do not?

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02:47

Problem 6

What are the advantages and disadvantages of exchange-traded funds versus mutual funds?

Penny Riley
Penny Riley
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Problem 7

An open-end fund has a net asset value of $$\$ 10.70$$ per share. It is sold with a froat-end load of $6 \%$. What is the offering price?

James Kiss
James Kiss
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Problem 8

If the offering price of an open-end fund is $$\$ 12.30$$ per share and the fund is sold with a frontend load of $5 \%$, what is its net asset value?

James Kiss
James Kiss
Numerade Educator

Problem 9

The composition of the Fingroup Fund portfolio is as follows:
$$
\begin{array}{crr}
\text { Stock } & \text { Shares } & \text { Price } \\
\hline \text { A } & 200,000 & \$ 35 \\
\text { B } & 300,000 & 40 \\
\text { C } & 400,000 & 20 \\
\text { D } & 600,000 & 25
\end{array}
$$
The fund has not borrowed any funds, but its accrued management fee with the portfolio manager currently totals $$\$ 30,000$$. There are 4 million shares outstanding. What is the net asset value of the fund?

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Problem 10

Reconsider the Fingroup Fund in the previous problem. If during the year the portfolio manager sells all of the holdings of stock $D$ and replaces it with 200,000 shares of stock $\mathrm{E}$ at $$\$ 50$$ per share and 200,000 shares of stock $\mathrm{F}$ at $$\$ 25$$ per share, what is the portfolio turnover rate?

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Problem 11

The Closed Fund is a closed-end investment company with a portfolio currently worth $$\$ 200$$ million. It has liabilities of $$\$ 3$$ million and 5 million shares outstanding.
a. What is the NAV of the fund?
b. If the fund sells for $$\$ 36$$ per share, what is its premium or discount as a percent of net asset value?

James Kiss
James Kiss
Numerade Educator
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Problem 12

Corporate Fund started the year with a net asset value of $$\$ 12.50$$. By year-end, its NAV equaled $$\$ 12.10$$. The fund paid year-end distributions of income and capital gains of $$\$ 1.50$$. What was the (pretax) rate of return to an investor in the fund?

James Kiss
James Kiss
Numerade Educator
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Problem 13

A closed-end fund starts the year with a net asser value of $$\$ 12.00$$. By year-end, NAV equals $$\$ 12.10$$. At the beginning of the year, the fund was selling at a $2 \%$ premium to NAV. By the end of the year, the fund is selling at a 7% discount to NAV. The fund paid year-end distributions of income and capital gains of $$\$ 1.50$$.
a. What is the rate of return to an investor in the fund during the year?
b. What would have been the rate of return to an investor who held the same securities as the fund manager during the year?

James Kiss
James Kiss
Numerade Educator

Problem 14

a. What are some differences between unit investment trusts and closed-end funds?
b. What are some differences between hedge funds and mutual funds?
c. What are some differences between equity and mortgage REITs?

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Problem 15

Consider a mutual fund with $$\$ 200$$ million in assets at the start of the year and 10 million shares outstanding. The fund invests in a portfolio of stocks that provides dividend income at the end of the year of $$\$ 2$$ million. The stocks included in the fund's portfollo increase in price by $8 \%$, but no securities are sold and there are no capital gains distributions. The fund charges $12 \mathrm{~b}-1$ fees of $1 \%$, which are deducted from portfolio assets at year-end. What is the fund's net asset value at the start and end of the year? What is the rate of return for an investor in the fund?

James Kiss
James Kiss
Numerade Educator

Problem 16

The New Fund had average daily assets of $$\$ 2.2$$ billion last year. The fund sold $$\$ 400$$ million worth of stock and purchased $$\$ 500$$ million during the year. What was its turnover ratio?

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Problem 17

If New Fund's expense ratio (see the previous problem) was $1.1 \%$ and the management fee was $7 \%$, what were the total fees paid to the fund's investment managers during the year? What were other administrative expenses?

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Problem 18

You purchased 1,000 shares of the New Fund at a price of $$\$ 20$$ per share at the beginning of the year. You paid a front-end load of $4 \%$. The securities in which the fund invests increase in value by $12 \%$ during the year. The fund's expense ratio is $1.2 \%$. What is your rate of return on the fund if you sell your shares at the end of the year?

James Kiss
James Kiss
Numerade Educator

Problem 19

Loaded-Up Fund charges a $12 \mathrm{~b}-1$ fee of $1.0 \%$ and maintains an expense ratio of $.75 \%$. Economy Fund charges a front-end load of $2 \%$ but has no $12 \mathrm{~b}-1$ fee and has an expense ratio of $.25 \%$, Assume the rate of return on both funds' portfolios (before any fees) is $6 \%$ per year. How much will an investment in each fund grow to after:
a. 1 year?
b. 3 years?
c 10 years?

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Problem 20

City Street Fund has a portiolio of $$\$ 450$$ million and liabilities of $$\$ 10$$ million.
a. If 44 million shares are outstanding, what is net asset value?
b. If a large investor redeems 1 million shares, what happens to the (i) portfolio value, (ii) shares outstanding, and (iii) NAV?

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Problem 21

The Investments Fund sells Class A shares with a front-end load of $6 \%$ and Class $\mathrm{C}$ shares with $12 \mathrm{~b}-1$ fees of $.5 \%$ annually as well as back-end load fees that start at $5 \%$ and fall by $1 \%$ for each full year the investor holds the portfolio (until the fifth year). Assume the portfolio rate of return net of operating expenses is $10 \%$ annually. If you plan to sell the fund after 4 years, are Class $\mathrm{A}$ or Class $\mathrm{C}$ shares the better choice for you? What if you plan to sell after 15 years?

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Problem 22

You are considering an investment in a mutual fund with a $4 \%$ load and an expense ratio of $.5 \%$. You can invest instead in a bank CD paying $6 \%$ interest.
a. If you plan to invest for 2 years, what annual rate of return must the fund portfolio earn for you to be better off in the fund than in the CD? Assume annual compounding of returns.
b. How does your answer change if you plan to invest for 6 years? Why does your answer change?
c. Now suppose that instead of a front-end load the fund assesses a $12 \mathrm{~b}-1$ fee of $.75 \%$ per year. What annual rate of return must the fund portfolio earn for you to be better off in the fund than in the CD? Does your answer in this case depend on your time horizon?

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Problem 23

Suppose that every time a fund manager trades stock, transaction costs such as commissions and bid-ask spreads amount to $.4 \%$ of the value of the trade. If the portfolio turnover rate is $50 \%$, by how much is the total return of the portfolio reduced by trading costs?

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Problem 24

You expect a tax-free municipal bond portfolio to provide a rate of return of $4 \%$. Management fees of the fund are . $6 \%$. What fraction of portfolio income is given up to fees? If the management fees for an equity fund also are . $6 \%$, but you expect a portfolio return of $12 \%$, what fraction of portfolio income is given up to fees? Why might management fees be a bigger factor in your investment decision for bond funds than for stock funds? Can your conclusion help explain why unmanaged unit investment trusts tend to focus on the fixed-income market?

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04:44

Problem 25

Use Figure 4.5 to answer the following questions about Fidelity's Small Cap Growth fund.
a. What is the fund's investment style. Is it consistent with the fund's name?
b. In what quartile was the fund's 2020 return compared to other firms with the same investment style?
c. What has been the consistency of the fund's comparative performance? Can you explain why Morningstar has awarded the fund a four-star ranking?
d. Morningstar characterizes the fund's expense ratio as average. Do you agree? What considerations go into thinking about the correct benchmark for this statistic for this fund?
e. What is the fund's most recent turnover ratio? If the cost of a trade for small stocks was $25 \%$ of the assets bought or sold, by how much did trading costs reduce the fund's net returns?

HC
Haoyu Chen
Numerade Educator
04:44

Problem 26

Here is a partial reproduction of Morningstar's report on the FMI (Fiduciary Management Inc.) Large Cap Investor fund.
a. Compare the style box to that of Fidelity's Small Cap fund (see Figure 4.5). Do the differences between the funds make sense to you?
b. Compare the turnover ratios of the two funds. What might explain the big difference in these values?
c. Compare the consistency of relative performance of the two funds.

HC
Haoyu Chen
Numerade Educator