Let's say Pete over
here thinks that he's a pretty good investor. So what he does is, he has
an idea that says, look, I'm going to create
a corporation. And I'm going to get
a bunch of people to contribute money
to that corporation. And then I'll manage that
money, and maybe I'll take a little fee for
myself, so that I can maybe hire some analysts,
or get some computers, or get some office space. What he does is he
sets up a corporation. Let's say he sets up a
corporation right over here. And let's say the way he
first sets up the corporation, let's say it just
has four shares. And I'm making the
number really small just to make the drawing
and the math easy. This wouldn't be realistic. Normally it would be something
in the hundreds or thousands of shares, or maybe
even more than that. But let's say it
has four shares. And let's say all the four
shares are owned by Pete initially, just to
simplify the explanation. And he puts in $400
into this corporation. So another way to think about
it, in exchange for him putting $400 into this corporation,
he gets four shares, or each share is
worth $100, each of these shares right over here. And so what he does is he
registers this corporation-- and I'm talking about
a US-specific case, but there's similar
types of organizations in other countries-- he
registers this organization right over here with the US
SEC, Securities and Exchange Commission. And he also registers
himself with the SEC. Or even better, he registers
a management company that he runs with the SEC. So let's call it Pete Inc. It's
a corporation he starts off that he also registers
with the SEC. And when he registers
with the SEC, he tells them that look,
this company right over here, we're going to issue more
shares for more people to contribute money. And I'm going to manage
this money right over here, and I'm just going to take a
percentage of the total assets under management. Sometimes you'll see AUM used. That just means assets
under management. That will go to
Pete Inc. every year for figuring out the best
place to invest this money. And it's usually on the
order of about 1%, sometimes a little bit less,
sometimes a little bit more. So 1% per year. So right now, with only
$400 under management, it would only be
about $4 per year. But since he registered
with the SEC, he can call himself
a mutual fund, and he can solicit
funds from the public. So it is a mutual fund, he has
jumped through all the hoops that the SEC sets up for him. So he can market himself as
some type of great fund manager. We don't know if
that's true or not. And he can also solicit
funds from the public. And we're going to
see in future videos, there other funds, especially
hedge funds, that one, they can't market, and
they can't take funds from the public. Those can only take
funds from certain types of sophisticated investors. And what happens in
Pete's fund, and this is going to be an open
ended mutual fund that we're showing here, and most
mutual funds are like that. Let's say that Sal comes along,
he likes Pete's marketing materials, and he
says hey, I want Pete to manage my money too. So Sal goes and he
gives $100, and says, Pete, give me a share. So Pete creates another
share right over here, he creates another share
he gives it to Sal. So he gets one share, that's me. I get one share. And in exchange, I
gave $100 to the fund. So now the fund has $500. So this is another
$100 right over here. And now Pete's
annual fee is going to be 1% of this whole
thing, or $5 a year. And if this whole
thing grows, let's say this whole thing
doubles from $500, let's say it doubles to
$1,000, then that $1,000 is essentially split amongst
these five shares now. So all of the people
will essentially have their money doubled, minus
whatever Pete's expenses are. In the next few videos, I'll
go over a little bit more of the mechanics of an
open ended mutual fund.
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