Dec 12, 2008
FirstCaribbean revenue, profit diminished
FirstCaribbean Inter-national Bank Limited (FCIB) is expected to report year-end profits that have fallen off by US$80 million or 31 per cent when its earnings report becomes available.
[ more . . . ]

Dec 10, 2008
Global crisis hits Agostini’s rights issue
Agostini’s Ltd has suffered a shortfall in its rights issue which closed on October 22, 2008.
[ more . . . ]

Dec 08, 2008
BSE not fearful of crisis
THE Barbados Stock Exchange (BSE) does not foresee any major impact on its operations as a result of the global financial crisis
[ more . . . ]

Dec 08, 2008
FirstCaribbean affected by global financial crisis
THE current global financial condition has significantly impacted the net income of one the largest banks in the Caribbean.
[ more . . . ]

<< Opinions and Analysis

All Mutual Funds Are Not The Same II

May 13 , 2004

Trinidad and Tobago’s economy continues to prosper with oil prices recently peaking at thirteen year highs coupled with the announcement of new oil and gas discoveries. The buoyancy of the economy is reflected in a surge in the level of investments at all levels of the society.

The demand for shares on the stock market is at an unprecedented high. Similarly there is also significant demand for other types of investments most notably mutual funds. This has resulted in a number of new mutual fund products with even more expected to come onto the market in the near future.

Stocks is the Ideal

In light of this many investors have posed the question as to whether they should invest in stocks or in mutual funds. The short answer is that there is room for both sets of investments in your portfolio, the mix being dependant on your particular economic circumstances, your investment horizon and your attitude to risk.

From the onset it should be clear that in your ideal situation you would have the knowledge to determine exactly what securities to purchase and be able to identify the most opportune time to do so. Further you would want to be in a position where you have sufficient resources to hold a diversified portfolio of securities and so minimize your risks.

That being the case the ability to purchase stocks and bonds in your own name should be the ultimate goal of any investor. As you work towards this ideal there are interim measures available where you can pool your resources with other investors which can then be invested by a professional under a predetermined criterion with the resultant gains and losses being shared by the participating investors. This is the basic concept of a mutual fund.

Just about every major financial institution offers mutual funds and many investment related companies also act as agents for these said funds. In fact many stockbroker firms augment their stockbroking activities by acting as agents for mutual funds and investors wise enough to hold a long term view will realize that purchasing mutual funds through a stockbroker can assist in developing the client broker relationship which will ultimately prove beneficial when you move to purchasing stocks in your own name.

Your Starting Point

"While mutual funds are often touted as the investment vehicle of choice for new investors, the ins and outs of mutual fund investing may not be readily understood by new market participants."

As a result there is the risk of suboptimal investment decisions which can potentially result in some measure of future financial loss. The need for diligence on the part of investors is further highlighted by the absence of a robust regulatory and legislative framework governing the operations of mutual funds. Under such circumstances the reputation of the mutual fund company should be considered just as important as the rate of return.

Investors should understand very clearly that all mutual funds are not the same. There are different types of mutual funds and within each type there are different styles of management. This will result in differing risk and return profiles across the spectrum of available funds. If you understand this basic principle then you will also understand that it is very simplistic to evaluate the performance of a mutual fund by the percentage return that is often quoted in the newspapers as higher returns often carry a higher risk. Basing investment decisions solely on this metric will often lead to an inefficient allocation of resources in your portfolio and may cause you to accept risks that your financial circumstances do not permit.

“It is very simplistic to evaluate the performance of a mutual fund by the percentage return that is often quoted in the newspapers as higher returns often carry a higher risk.”

The broad classes of mutual funds are:

• Fixed Income Fund - invests primarily in fixed-term debt securities. These funds are sensitive to interest rate changes and are primarily for investors with a medium to long term horizon. They offer investors the benefits of steady interest income and the opportunity to realize capital gains.
  
• Money Market Fund – true money market funds invests exclusively in short-term (less than one year) debt instruments and other highly liquid and safe securities. Geared to the short-term investor, these funds provide the chance to insulate capital while receiving returns superior to those offered by a bank savings account.
  
• Equity Fund - invests primarily in equities. The objective of an equity fund usually is long-term growth through capital appreciation. However, some income may be earned from dividends. Equity funds differ in their selection of individual companies and markets (e.g. combinations of T&T equities, regional equities or US equities).
  
• Balanced Fund - these exist for those investors who want the benefits and convenience of owning bonds, money market instruments, and equities in one mutual fund. Balanced funds are designed to produce a mix of both capital gains and income, with less variability (risk) than equity funds normally exhibit.
  
• Property Funds – designed for a medium to long-term horizon these funds are based primarily in real estate and other property related securities.

Define Your Purpose

It should be obvious that each of the above classes of funds carries a differing risk / return profile and each would contribute differently to an investor’s portfolio. To further complicate matters some funds may be hybrid versions of the above further altering the risk / return profile. Before investing in a mutual fund it is important to read and understand the fund prospectus.

A balanced fund may not produce the highest rate of return but is decidedly less risky than a pure equity fund. In fact funds with a strong equity bias are doing quite well as the T&T and Jamaican Stock markets in particular are booming. However there is the risk that these funds may under perform other funds on the market if equity markets turn south. If your portfolio consists of both shares and mutual funds in this segment then you are doubly exposed.

Persons who have invested in US based equity funds prior to 2001 can relate to this risk scenario first hand. These funds were boasting high returns up until September 11 and the subsequent recession in the US. Since then returns have fallen dramatically and these funds even four years later have generally not recovered their pre-2001 levels. Investors with a low risk tolerance holding these types of funds would be very distressed. Over this same period balanced funds have generated more stable returns.

Similarly a money market fund may be suitable to an investor who is seeking to earn a slightly higher return than a bank deposit account without sacrificing liquidity. Such an investor should shy away from a fixed income fund which requires a longer term investment horizon.

Having highlighted some of the qualitative differences between mutual funds we will explain how to interpret the quantitative information put out by mutual funds in a subsequent article. In the mean time consult your financial advisor before making any investment decision.

Ian Narine is the General Manager at West Indies Stockbrokers Limited. He can be contacted at iann@wisett.com

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