Investment Companies

Investment Companies

Investment companies, also called portfolio intermediaries, are regulated by the Investment Company Act of 1940. The Act defines an investment company as a corporation or trust in which investors pool their funds, in order to obtain diversification and professional management. Investment companies invest this pooled money;their shareholders' investments are represented by stocks and bonds of other companies. Investors, instead of making decisions individually or seeking the advice of a broker, give the responsibility of managing their money to an investment company.

Most investment companies are organized as corporations;some have been established as trusts. A corporation is run by a board of directors, while a trust is generally supervised by a bank as trustee.

There are 3 different types of Investment Companies:

•  Face Amount Certificate Companies - are relatively rare. They issue a face amount certificate which in effect is a corporate version of a zero, purchased over an installment period not less than 2 years.

•  Unit Investment Trusts - are portfolios that once established are not actively traded. They are called fixed trusts and have no investment manager or board of directors. Investors buy units which are redeemed by the trust upon request. UIT's are usually based on some investment strategy or theory. A good example is the "Dogs of the Dow".

• Management Companies - are actively traded and are classified as open-end or closed-end as described below. Most popular mutual funds are open end management companies.

Mutual fund shareholders receive two types of cash distributions: dividends and capital gains. Dividends consist of income generated by the investments in the fund. Capital gains are earned when positions in the fund are sold at a profit.

Three Major Advantages:

• Diversification - the average individual investor, with limited assets, is often unable to diversify his holdings. By pooling funds with other investors, the individual is able to purchase an interest in a diversified portfolio of securities.

• Professional Management - Many investors lack sufficient knowledge or time to manage their own investments. By combining their assets with others in a mutual fund, they are able to secure the services of professional portfolio managers at a cost substantially lower than what each would pay individually.

• Liquidity-Liquidity is the ability to sell an asset at a reasonably predictable price and convert the asset to cash within a short period of time. Most mutual funds are liquid investments. Shareholders can usually sell or redeem their holdings on any business day at the market price and receive the proceeds within a week.