Fund has many descriptions. It can be a large supply of money set aside for something. An example is the sinking fund, which is money set aside periodically by a bond issuer to redeem the debt at maturity. Another example is fund set aside by government, such as FGN’s Tertiary Education Trust Fund (TetFund) which is an intervention fund for development of tertiary education in Nigeria. However, these are not funds in which the investing public can invest. Investment fund is the focus of this presentation. Here, it serves as a potent investment outlet for the investing public.
Investment fund is a collective investment vehicle or scheme with respect to investing in property of any description, including money. The purpose of which is to enable investors taking part in the arrangement to receive profit or income, arising from the acquisition, management, holding or disposal of the property, or sums paid out of such profits or income. The schemes are reputed to be the most effective means of mobilizing savings and investments from retail and passive investors.
Generally, investment fund is a way of investing money alongside other investors in order to benefit from the inherent advantages of pooling resources together. The pool of fund aggregated from a scheme is used to collectively purchase asset(s) in which each investor own unit(s).
Collective investment schemes are formal vehicles that operate under stringent legal and regulatory frameworks to ensure investors’ protection. A scheme will typically have:
* A fund manager or investment manager who manages the investment decisions.
* A fund administrator who manages the trading, reconciliations, valuation and unit’s pricing.
* A Board of Directors or trustees who safeguard the assets and ensure compliance with laws, rules and regulations.
* A marketing or distribution company to promote and sell units of the fund.
There are two broad types of investment fund. These are open-end fund and closed-end fund. They can also be differentiated according to asset based categories, geographic markets or specialities like infrastructure, tech, healthcare, pension, etc.
Open-end funds create and redeem units after they are initially issued. They issue new units as investors add money to the pool and retire units as investors sell or redeem. Open-end funds are equitably divided into units which vary in price in direct proportion to the variation of the fund’s net asset value. There is no limit as to the number of units a fund can create or redeem as long as investors are buying and selling. Common examples of open-end fund are Mutual Fund (Unit Trust Fund) and Exchange Traded Funds (ETFs). Mutual funds are comprehensive investment resources comprising a cocktail of financial assets pooled into funds. The funds are in turn broken into units which investors can buy.
Mutual funds are generally classified into the type of underlying financial assets they invest in. They include:
• Cash management funds which invest primarily in money market instruments.
• Conservative equity funds which primarily invest in the stocks of blue chip companies.
• Growth funds which invest primarily in the equities of growth companies.
• Income funds which invest primarily in high yielding and secure fixed income instruments.
• Global funds which invest in foreign instruments.
• Balanced fund which is an aggregation of debt, equities and other diversities.
• Ethical funds which invest according to ethical preferences.
As a result of the transfer of mutual funds from memorandum listing to full listing on the Nigerian Exchange Limited (NGX) platform, they are now readily available for purchase through stockbroking firms. This has made mutual funds more accessible to the investing public.
Exchange Traded Fund (ETF) is another open-end fund that is actively traded on the NGX. ETF is a fund created from an underlying asset it tracks or a basket of underlying securities created to track an index. Although ETFs are open-end funds, they have corporate structures and trade on exchanges, priced like closed-end funds. An arbitrage mechanism is used to keep the trading price close to net asset value of the ETF holdings.
Closed-end fund issues a limited or fixed number of units in an initial public offering (IPO) or through private placement. If units are issued through an IPO, they are then traded on a stock exchange or directly through the fund manager to create a secondary market, subject to market forces. The price that investors receive for their units may be significantly different from net asset value (NAV); it may be at a premium to NAV or at a discount to NAV. Examples of closed-end fund are investment trust fund like the Nigeria International Debt Fund, Infrastructure Fund and several Real Estate Investment Trusts (REITs) that are listed on NGX.
Other uncommon types of investment fund are hedge fund, venture capital fund and private equity fund which are offered only through private placement. A hedge fund is an investment type that is distinct from Mutual Funds or ETFs. The fund is an actively managed investment made available to accredited investors. It uses hedging techniques to manage the intrinsic risks of its underlying assets. As a result, it’s investment spreads to risky assets like derivatives and leveraged purchases.
Some collective investment vehicles have the power to borrow money to make further investment; a process known as gearing or leverage. This can remarkably increase the investment risk of the fund but the potential for higher returns may justify the risk. Many funds are split into multiple classes of units or shares. The underlying assets of each class are effectively pooled for the purpose of investment management because classes typically differ in fees and expenses paid out of the fund’s assets.
Investment fund provides a broader selection of investment opportunities. It allow investors to achieve significant diversification even with limited resources thus, hedging against some unsystematic risk. The risk adjusted returns can be enhanced through professional investment management of the fund. Investors also benefit from economies of scale offered by the fund due to lower transaction costs. In spite of these, with investment fund, individual investors do not make decisions about how a fund’s assets are invested. They simply choose a fund based on it’s goals, it’s past performance, risk and other factors such as management fees. Investors do not also have direct ownership rights over the underlying assets.
The aim of most funds is to make money by investing in assets to obtain a real return (better than inflation). While mutual funds are meant to beat the market, ETFs can only achieve returns posted by the underlying assets they track. When analyzing the investment performance of a fund, statistical measures such as standard deviation is used as a measure of volatility of the fund’s performance over a period of time. High historical volatility may indicate high future variability of the fund’s performance and hence, increased investment risk in the fund.
Unlike in the past when the incidence of mismanaged funds was rampant, the market is now strictly regulated. The basic aims of collective investment scheme regulations are to uphold integrity of the funds, and ensure that the financial products which are sold to the investing public are sufficiently transparent, with full disclosure about the nature of the terms.
The possibilities offered by investment funds are endless. A careful search will enable you unlock the hidden treasure in funds and also uncover those that meets the differentiated investment profile, risk appetite and goals of every investor. Your stockbroker is there to guide you in picking the rewarding choice that foster the desired goals congruence.
David Adonri, Executive Vice-chairman, Highcap Securities Ltd