Financial Risk Management

FINAL PROJECT
MUTUAL FUNDS:
- Introduction Of Mutual Funds
- Investment Objectives
- Types of Mutual Funds
- Risk in Mutual Funds

Submitted to: Sumair Iqbal

Submitted by Group Members

Nadir Ahmed - 60236

Ishrat Fatima - 60106

Faiza -55342

Sabeen -40000

Saim Qarani - 41378

 MUTUAL FUNDS
A mutual fund is a professionally-managed investment scheme, made up of a pool of money
collected from many investors to invest in securities like stocks, bonds, money market
instruments, and other assets.

 The first modern mutual fund was launched in the U.S. in 1924.
 The oldest mutual fund still in existence is MFS’ Massachusetts Investors Trust (MITTX),
also established in 1924.
 The exchange-traded fund, a modern variation, has taken the market by storm since
the Great Recession of 2007–2009.
  Why Mutual funds?
Mutual funds are a popular choice among investors because they generally offer the
following features:

 Professional Management
o The fund managers do the research for you. They select the securities and
monitor the performance.
 Diversification or (Don’t put all your eggs in one basket)
o Mutual funds typically invest in a range of companies and industries. This helps
to lower your risk if one company fails.
 Affordability
o Most mutual funds set a relatively low dollar amount for initial investment and
subsequent purchases.
 Liquidity
o Mutual fund investors can easily redeem their shares at any time, for the current
net asset value (NAV) plus any redemption fees.

 Open-Ended & Closed-Ended mutual funds:

 Open-ended Fund

These are mutual funds which continually create new units or redeem issued units on demand.
They are also called Unit Trusts. The Unit holders buy the Units of the fund or may redeem
them on a continuous basis at the prevailing Net Asset Value (NAV).

These units can be purchased and redeemed through Management Company which announces
offer and redemption prices daily.

They don’t have a limit as to how many shares can be issued, as more investor’s purchase the
funds, more shares are issued also referred to as Unit Trusts.

 Close-ended Fund
 These funds have a fixed number of shares like a public company and are floated through an
IPO. Once issued, they can be bought and sold at the market rates in secondary market (Stock
Exchange). The market rate is announced daily by the stock exchange.

 A closed-end fund is generally referred to as “Closed-Ended Company

 These funds sell a fixed number of shares and are launched through an IPO (Initial Public
Offering).
 Once issued, they can be bought and sold at market rates in the secondary market
(Stock Exchange).
 The market rate is announced daily by the stock exchange. Once close-end fund starts
trading, their prices are then marked by supply and demand and not by NAV

INVESTMENT OBJECTIVES;

Three words are commonly used to describe the objectives of

mutual funds: growth (also known as capital appreciation), income, and preservation of capital.
Investors should always read about a mutual fund’s objective in its prospectus to make sure
that it is a good fit with their personal investment objectives.

 Funds that seek capital appreciation Mutual funds with a growth objective hold a
portfolio of company stocks with an expectation that they will grow in value over time.
 Funds that seek income Funds with an income objective select securities such as bonds
and preferred stock that can provide regular income payments.
 With a preservation of capital objective, it is important that an investor’s initial
investment does not lose value. Funds with this objective (e.g., money market mutual
funds) generally hold very short-term cash equivalent assets.
 Funds that seek a combination of growth and income generally invest in equity
securities that pay dividends or else invest in a mix of equity securities and bonds.

TYPES OF MUTUAL FUNDS;

Mutual funds are divided into several kinds of categories, representing

the kinds of securities they have targeted for their portfolios and the type of returns they seek.
There is a fund for nearly every type of investor or investment approach. Other common types
of mutual funds include money market funds, sector funds, alternative funds, smart-beta
funds, target-date funds, and even funds of funds, or mutual funds that buy shares of other
mutual funds.

EQUITY FUNDS;

The largest category is that of equity or stock funds. As the name implies,
this sort of fund invests principally in stocks. Within this group are various subcategories. Some
equity funds are named for the size of the companies they invest in: small-, mid-, or large-cap.
Others are named by their investment approach: aggressive growth, income-oriented, value,
and others. Equity funds are also categorized by whether they invest in domestic (U.S.) stocks
or foreign equities. There are so many different types of equity funds because there are many
different types of equities. A great way to understand the universe of equity funds is to use a
style box, an example of which is below. The idea here is to classify funds based on both the
size of the companies invested in (their market caps) and the growth prospects of the invested
stocks. The term value fund refers to a style of investing that looks for high-quality, low-
growth companies that are out of favor with the market. These companies are characterized
by low price-to-earnings (P/E) ratios, low price-to-book (P/B) ratios, and high dividend yields.
Conversely, spectrums are growth funds, which look to companies that have had (and are
expected to have) strong growth in earnings, sales, and cash flows. These companies typically
have high P/E ratios and do not pay dividends.

FIXED INCOME FUNDS;

Another big group is the fixed income category. A fixed-income mutual

fund focuses on investments that pay a set rate of return, such as government bonds,
corporate bonds, or other debt instruments. The idea is that the fund portfolio generates
interest income, which it then passes on to the shareholders. Sometimes referred to as bond
funds, these funds are often actively managed and seek to buy relatively undervalued bonds in
order to sell them at a profit. These mutual funds are likely to pay higher returns than
certificates of deposit and money market investments, but bond funds aren't without risk.
Because there are many different types of bonds, bond funds can vary dramatically depending
on where they invest. For example, a fund specializing in high-yield junk bonds is much riskier
than a fund that invests in government securities. Furthermore, nearly all bond funds are
subject to interest rate risk, which means that if rates go up, the value of the fund goes down.

INDEX FUND;

Another group, which has become extremely popular in the last few years, falls
under the moniker "index funds." Their investment strategy is based on the belief that it is
very hard, and often expensive, to try to beat the market consistently. So, the index fund
manager buys stocks that correspond with a major market index such as the S&P 500 or the
Dow Jones Industrial Average (DJIA). This strategy requires less research from analysts and
advisors, so there are fewer expenses to eat up returns before they are passed on to
shareholders. These funds are often designed with cost-sensitive investors in mind.

BALANCE FUNDS;

Balanced funds invest in a hybrid of asset classes, whether stocks, bonds,

money market instruments, or alternative investments. The objective is to reduce the risk of
exposure across asset classes. This kind of fund is also known as an asset allocation fund. There
are two variations of such funds designed to cater to the investor’s objectives. Some funds are
defined with a specific allocation strategy that is fixed, so the investor can have a predictable
exposure to various asset classes. Other funds follow a strategy for dynamic allocation
percentages to meet various investor objectives. This may include responding to market
conditions, business cycle changes, or the changing phases of the investor's own life .

MONEY MARKET FUNDS;

The money market consists of safe (risk-free), short-term debt

instruments, mostly government Treasury bills. This is a safe place to park your money. You
won't get substantial returns, but you won't have to worry about losing your principal. A
typical return is a little more than the amount you would earn in a regular checking or savings
account and a little less than the average certificate of deposit (CD). While money market
funds invest in ultra-safe assets, during the 2008 financial crisis, some money market funds did
experience losses after the share price of these funds, typically pegged at $1, fell below that
level and broke the buck.

INCOME FUNDS;
Income funds are named for their purpose: to provide current income on a
steady basis. These funds invest primarily in government and high-quality corporate debt,
holding these bonds until maturity in order to provide interest streams. While fund holdings
may appreciate in value, the primary objective of these funds is to provide steady cash flow to
investors. As such, the audience for these funds consists of conservative investors and retirees.
Because they produce regular income, tax-conscious investors may want to avoid these funds.

ASSETS ALLACTION FUNDS:

This fund gives investors a diversified portfolio of investments that cover a number of asset classes. The
asset allocation of the fund can be fixed or it can be variable within a mix of asset classes. What this
means is that it can be held to percentages that are fixed within asset classes or they can go overweight
on others depending on the conditions of the market. Some popular asset classes include stocks, bonds
and cash equivalents.
ISLAMIC MUTUAL FUNDS:

Islamic Mutual Funds are also being provided by Pakistan's leading Fund Managers and Asset
Management companies. Islamic Mutual Funds are managed in same way as of Conventional Mutual
Funds however any security investments are made into the Shariah-Compliant investments. The
demand of the Islamic Mutual Funds is growing and a very large number of Shariah-Compliant mutual
funds are available.

RISK OF MUTUAL FUNDS;

All investments in funds involve risk of financial loss. The reward

for taking on risk is the potential for a greater investment return. An investor with a high-risk
tolerance is generally willing to risk losing money in order to seek larger investment gains than
those typically achieved by a lower-risk investment. On the other hand, an investor with a low-
risk tolerance may favor investments in funds that are generally more stable in value. When
reading a fund prospectus, it is important to determine if the fund satisfies your investment
objective and matches your risk tolerance, as well as the risks in your overall portfolio. Your risk
tolerance depends upon several factors, including your financial situation, age, and family
obligations. The types of risks to which a fund is subject vary considerably with the nature of its
investments. Some of the more common risks for funds include:

 Market risk. The fund may incur losses due to declines in the markets in which it
invests.
 Business or Issuer risk. The fund may invest in a company that goes out of business,
suffers financial problems, or otherwise does not perform as expected, especially if the
fund primarily invests in companies without an established record.
 Credit risk. The fund may invest in bonds or other debt instruments from an issuer
who is unable to pay interest payments as scheduled or repay the principal.
 Interest rate risk. The value of the fund’s investments in bonds or other debt
instruments may decrease if interest rates rise.
 Inflation risk. The value of the fund’s investments in bonds or other debt instruments
also may not keep track with price increases from inflation.
 Concentration risk. The fund may concentrate its investments in a particular
industry, sector or geographical area, which can result in a less diversified portfolio that
may be subject to greater volatility in performance than a fund that does not
concentrate its investments.
 Political risk.
Potential for changes in government to impact the value of an investment. It may also
include policy changes made by governments
A fund’s past performance is not as important as you might think because past
performance does not predict future returns. But past performance can tell you how
volatile or stable a fund has been over a period of time. The more volatile the fund, the
higher the investment risk.