Mutual funds and ETFs
Open-End Mutual Fund Redemptions Understanding the mechanics of an open end mutual fund a bit better
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- Let's continue with the story of
- Pete's mutual fund.
- The year goes by,
- and then even after paying Pete the 1%,
- so we had $500 of assets under management
- this whole assets under management
- a year later goes to,
- let's say it goes to, like I mention at the end of the last video,
- $1,000, so Pete either is really good, or really lucky,
- or a little bit of both.
- So now it is at $1,000,
- and it still has the same five investors here,
- and I am lucky enough to be one of them.
- So here are the five investors,
- let me draw the shares, so there is one,
- two, three,
- four, five shares.
- Now, each of these shares,
- well the $1,000 is called the NAV,
- or the net asset value,
- let me give you that piece of terminology,
- it just means net asset value.
- So there is an NAV per share,
- the NAV per share over here is $200,
- I just took the total NAV and I divided it by the shares.
- And what's special about an open ended mutual fund
- is that the close, or end of every day,
- either new shares can be removed from the fund,
- or be created before the fund.
- So, in the first video,
- I showed how I wanted to buy into the fund,
- so I bought a share, and that increased the NAV,
- and it also increased the number of shares,
- he had to create a share for me to buy,
- he didn't sell me a share that already existed,
- so you can imagine after this type of performance
- more people would want to buy shares,
- so now they would have buy in,
- to make things fair,
- at $200 per share
- because that's the current NAV per share,
- so lets say that five more people want to buy in at
- $200 per share,
- so what Pete would do, or what this mutual fund,
- its not Pete really, its the corporation,
- it would creat five new shares.
- So, one, two,
- three, four, five, if there was only one person that day
- it would create one share that day,
- if there were ten people that day,
- it would create ten shares that day,
- and it can keep doing this,
- and the NAV of each of these are
- $200.
- So it gives these shares to each of these people,
- and they have to contribute $200,
- so essentially,
- it puts another $1,000 into the pool, that Pete can now manage,
- and so now the total NAV for the fund is $2,000 now
- and Pete will get his 1% management fee
- off of this entire $2,000.
- Now, lets say we fast forward a little bit,
- we fast forward a little bit to,
- lets say Pete starts having a not so good year,
- so lets say we fast forward a year past that,
- and Pete has a negative 10% return.
- So if you started at $2,000,
- and that's when you include taking his management fee out,
- you started at $2,000,
- you lose 10% in one year,
- so it goes down to $1,800.
- Let me put this in a new color,
- so now he's at $1,800.
- It's not completely drawn to scale,
- but hopefully you will get the idea.
- So now he is at $1,800,
- $1800, but you still have a total of ten shares,
- you still have a total of ten shares,
- let me draw,
- or let me do my best to draw, the ten shares.
- One, two, three,
- four, five, six,
- seven, eight, nine, ten.
- These should be at equal size,
- and now the NAV per share is going to be
- $1,800 divided by 10,
- or $180.
- And lets say, that I get a little freaked out,
- by this recent performance,
- and I have some other commitments with my money,
- so I say,
- Pete,
- you need to buy my one share back from me,
- so what Pete does,
- is he would give me back $180,
- so the total NAV would lose $180,
- so it would go down $180,
- so we would take this out of it,
- $1,800-$180 is $1,620,
- and they would buy back a share from me.
- So they would cancel one of the shares, but notice,
- the NAV per share does not change,
- by me redeeming my share,
- it does not change what happens to everyone else,
- now you have $1,620, divided by
- nine shares,
- that should still get you $180 per share,
- if I did my math right,
- so $1,800 minus $180 gets you $1,620,
- it should still be $180 per share,
- but this is the nature of an open ended fund,
- you can keep creating shares and selling them to the public
- to raise more money,
- or when someone wants their money back,
- you essentially buy the share back from them,
- give them their money,
- when you buy it back, and you remove that share.
- So an open ended fund,
- really at the close of every trading day,
- can keep growing or shrinking,
- it can keep adding more and more investors,
- or their investors can take their money back.
- What's difficult about this,
- from the fund manager's point of view,
- is that they have to manage this,
- they have to manage this constant buying and selling with the public,
- they have to manage the paper work,
- and if you think about it,
- they can't have all of their money invested,
- in relatively illiquid assets,
- or even in regular stocks,
- they have to keep some amount of their money,
- and it is usually 3 to 5%,
- they have to keep some of this $2,000,
- they have to keep some of it in cash.
- and from an investor's point of view,
- they would say,
- well if I'm good at investing, I should try to minimize
- the amount of cash that I have,
- because I am not getting a return on cash,
- but because it is open ended,
- because investors might come by and say,
- hey, I want my money,
- you have to have a little amount of cash on hand
- as part of the asset pool,
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At 5:31, how is the moon large enough to block the sun? Isn't the sun way larger?
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