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Current time:0:00Total duration:5:49

Video transcript

let's continue with the story of Pete's mutual fund so let's say that a year goes by and then even after paying Pete the one percent so we had five hundred dollars of assets under management this whole assets under management a year later goes to let's say it goes to like I mentioned 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 it goes to $1,000 so let me draw it like this so now it is at $1,000 and it still has the same five investors here and I'm lucky enough to be one of them so here's the five investors let me draw the share so there's one two three four five shares now each of these shares that well the thousand dollars is called the nav or the net asset value so let me give you give you that piece of terminology just means net asset value and so there's an nav per share the nav per share right over here is $200 I just took the total nav and I just divided it by the shares and what's special about an open-ended mutual fund is that the close or at the end of every day either new shares can be removed from the fund or could 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 so he didn't sell me a share that already existed so you could imagine after this type of performance more people would want to buy shares so now they would have to buy in to make things fair at $200 per share because that's the current nav per share so let's say that five more people want to buy in at $200 per share so what Pete would do or what this mutual fund it's not Pete really it's the corporation it would create five new shares so 1 2 3 4 5 there's only there's only one person that day it would create one share that day if there were 10 people that day it would create 10 shares that day and it could 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 he's met 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 let's say that we fast forward a little bit we fast forward a little bit to lets say Pete starts having a not-so-good year so let's say we fast forward a year past that and Pete's Pete has a minus a negative 10% return so if you started at $2,000 and that's when you include taking his management fee out you start at $2,000 you lose 10% in one year so it goes down to $1,800 let me do this in a new color so now he's at $1,800 and it's not completely a drawn to scale but hopefully you get the idea so now he is at $1,800 1800 1800 dollars but you still have a total of 10 shares you still have total of 10 shares so let me draw try to do my best to draw the 10 shares so I have 1 2 3 4 5 6 7 8 9 10 these should be of equal size and now the nav per share nav per share is going to be 1,800 divided by 10 or 180 dollars and let's say that I get a little bit freaked out by this recent performance and I have some other commitments with my money so I say Pete you need to buy this my share back for me so what Pete does is he would give me back $180 so the total nav would be would lose 180 dollars so would go down $180 so we would take this out of it 1,800 minus 180 is 1620 so now it is 1620 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 1620 divided by 9 shares that should still get you to be 180 dollars per share if I did my math right so 1800 divided by minus 180 gets you 1620 it should still be one eight hundred and eighty dollars 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 managers 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 paperwork and if you think about it they can't have all of their money invested in in relatively illiquid assets or even in regular stocks they have to keep some amount of their money and it's usually like three to five percent they have to keep some of this 2,000 dollars before he lost my money 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 shouldn't I should try to minimize the amount of cash that I have because I'm not getting a return on cash but because it's open-ended because investors might come by and say hey I want my money you have to have a little bit of cash on it as part of the asset pool in order to be able to buy people's shares back
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