Exchange-Traded Funds vs Investment Trusts
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Questions and Answers

What role do authorized participants play in the context of ETFs?

  • They restrict buy and sell transactions to end-of-day NAV.
  • They create or redeem shares based on market demand. (correct)
  • They manage the assets of ETFs without any market impact.
  • They decide the price of the underlying assets in ETFs.
  • How do the pricing mechanisms of ETFs differ from those of mutual funds?

  • ETFs are priced based solely on the fund's NAV.
  • ETFs are traded at predetermined military prices.
  • ETFs are traded at market-determined prices throughout the day. (correct)
  • ETFs have no fluctuation in price during trading hours.
  • What is a significant feature of investment trusts compared to other investment types?

  • They issue a fixed number of shares that trade on the stock exchange. (correct)
  • They are designed to be highly liquid and flexible for investors.
  • They distribute profits to investors at the end of each trading day.
  • They are open-end funds that regularly create and redeem shares.
  • What distinguishes investment trusts from ETFs?

    <p>Investment trusts do not adapt to market demand for shares.</p> Signup and view all the answers

    Who typically manages the assets within an investment trust?

    <p>An in-house team of investment managers.</p> Signup and view all the answers

    What do hedge funds primarily aim to achieve?

    <p>Generative positive investment returns based on managers' skills</p> Signup and view all the answers

    Which strategy involves borrowing capital to increase position size?

    <p>Leverage</p> Signup and view all the answers

    What is the purpose of short-selling in hedge funds?

    <p>To bet against companies or assets believed to be overvalued</p> Signup and view all the answers

    What type of financial instruments are used by hedge funds to hedge risk or enhance returns?

    <p>Derivatives such as options, futures, and swaps</p> Signup and view all the answers

    What is a notable characteristic of many hedge funds regarding their location?

    <p>They are mostly based offshore in countries with unstrict financial regulation.</p> Signup and view all the answers

    What is the primary advantage of registering hedge funds with relevant regulators?

    <p>To ensure legal oversight and transparency</p> Signup and view all the answers

    What does the 2 and 20 fee structure in hedge funds refer to?

    <p>A 2% annual management fee and a 20% performance fee on profits</p> Signup and view all the answers

    How do hedge funds typically differ from mutual funds regarding investment liquidity?

    <p>Hedge funds impose restrictions limiting the access to invested capital for several years</p> Signup and view all the answers

    What is the primary goal of equity hedge strategies in hedge funds?

    <p>To profit from both rising and falling stock prices based on market insights</p> Signup and view all the answers

    What is short-selling in the context of hedge funds?

    <p>Selling shares that one does not own, betting that prices will decline</p> Signup and view all the answers

    What is a key characteristic of Contracts for Difference (CFDs)?

    <p>They allow speculation on price movements without owning the asset.</p> Signup and view all the answers

    Which of the following statements about leverage in CFD trading is true?

    <p>Leverage enables trading with only a fraction of the total trade value.</p> Signup and view all the answers

    What does margin represent in the context of trading CFDs?

    <p>The minimum balance required in the trading account.</p> Signup and view all the answers

    Which type of CFD typically involves speculation on currency pairs?

    <p>FOREX CFD</p> Signup and view all the answers

    Which of the following options accurately describes the nature of CFDs?

    <p>They capitalize on asset price fluctuations without ownership.</p> Signup and view all the answers

    What is the main goal of fixed-income arbitrage?

    <p>To buy underpriced bonds and short-sell overpriced bonds</p> Signup and view all the answers

    What distinguishes a Defined Benefit (DB) pension plan from a Defined Contribution (DC) pension plan?

    <p>DB plans promise a set percentage of final salary as pension</p> Signup and view all the answers

    How does macro arbitrage primarily generate returns?

    <p>By taking large directional bets on markets using leverage</p> Signup and view all the answers

    What is a key characteristic of personal pensions?

    <p>They allow individuals to contribute independently to their retirement savings</p> Signup and view all the answers

    What is the primary purpose of life assurance?

    <p>To provide a lump sum to beneficiaries upon the death of the policyholder</p> Signup and view all the answers

    Which of the following best describes merger arbitrage?

    <p>Buying shares of takeover targets and shorting shares of acquirers</p> Signup and view all the answers

    What does reinsurance primarily help insurance companies achieve?

    <p>Reduce their exposure to significant claims</p> Signup and view all the answers

    Which statement accurately describes state pensions?

    <p>They provide basic income based on national insurance contributions</p> Signup and view all the answers

    What are the two primary contributions sources in an occupational pension?

    <p>Employer and employee contributions</p> Signup and view all the answers

    What is a defining feature of proportional reinsurance?

    <p>The insurer and reinsurer share premiums and claims in a fixed ratio</p> Signup and view all the answers

    What distinguishes emerging market investing from other forms of investment?

    <p>Positions often taken in markets where shorting is difficult or impossible</p> Signup and view all the answers

    Which component is NOT a part of life assurance?

    <p>Guaranteed dividends</p> Signup and view all the answers

    What is the objective of macro arbitrage strategies?

    <p>To leverage market trends for substantial directional bets</p> Signup and view all the answers

    Which type of pension plan is considered unfunded?

    <p>State pension</p> Signup and view all the answers

    What is a critical difference between health insurance and life assurance?

    <p>Health insurance focuses on expense coverage, while life assurance pays upon death</p> Signup and view all the answers

    Study Notes

    ETFs

    • Shares prices can fluctuate based on demands
    • Authorized participants can create or redeem shares to help maintain ETFs liquidity and price stability
    • Allows investors to buy and sell ETFs shares throughout the trading day
    • Hybrid of a tradable stock and index-tracking fund
    • Combine diversity of a mutual fund with the liquidity and flexibility of stock trading
    • Pricing is determined by the market, can trade at/close to NAV
    • Charges range between 0.2% and 0.75%

    Investment Trusts

    • Set up as companies and floated on the Stock Exchange
    • Over 400 investment trusts on LSE, total assets of £80 billion
    • Closed-end funds, issue fixed no.of shares that trade on the stock exchange
    • Don't create or redeem shares based on demand, instead shares are bought and sold in the open market
    • Run by in-house team of investment managers
    • Aim to grow the trusts' value by investing in line with its stated goals
    • Share prices are determined by market and can trade at a premium or a discount to the NAV

    Hedge Funds

    • Attempt to generate positive investment returns based on managers' skills
    • Employ various strategies not normally used in mutual funds:
      • Leverage: borrow capital to increase position size, allows investors to take on larger bets but increases risks
      • Short-selling: selling shares that they do not own, frequently used to bet against companies or assets that investors believed that are overvalued or expected for downturn, particularly valuable in falling or volatile markets
      • Use of derivatives: Derivatives such as options, futures and swaps are often used to hedge risk, speculate or enhance returns, help funds to take large positions with relatively small initial investment
    • Mostly based offshore in countries with unstrict financial regulation
    • Fee structure (2 and 20 fee structure): 2% annual management fee on total assets, 20% performance fee on profits for managers
    • Usually need to be registered with relevant regulators
    • Privately managed to certain investors only
    • Might specialized in certain sector/industry/institutional
    • Investors are restricted to keep their money for 2-5 years

    Short-selling

    • Sell shares that you do not own (borrowing shares and then sell in the future)
    • A way of profiting from share prices going down
    • A common strategy in hedge funds

    Hedge Fund Strategies

    • Equity hedge: Profit from price movements in individual stocks based on the managers' market insights
    • Fixed-income arbitrage: Buys underpriced bonds, while shortselling similar (overpriced) issues
    • Merger arbitrage: Buys shares in takeover targets while shorting shares of the acquirer
    • Macro: takes large directional bets on markets, often using leverage to increase returns
    • Emerging market: Takes positions in emerging market securities (where shorting is often impossible)

    Pension Funds

    • Investment pool that collects and manage retirement savings for individuals or employees
    • 3 sources of pension income:
      • State pension: government-provided pension that offers basic income upon retirement, pay-As-You-Go (PAYG) method
      • Occupational pension: established by employers to provide retirement benefits for their employees, pre-funded with employer and often employee contributions, 2 types:
        • Defined Benefit (DB): employer promises set % of pay pension, employee may contribute, but employer bears balance of cost
        • Defined Contribution (DC): Employer and employee contribute to the fund, employee chooses how to invest the fund
      • Personal pension: Retirement savings plans that individuals can set up independently of their employer, funded with individuals contributing their own money

    Life Assurance

    • Financial product where individuals pay premiums to an insurance company, which promises to pay a specified lump sum to policyholders' dependents upon their deaths
    • Designed to provide financial security and support for beneficiaries
    • Key components:
      • Premium payments: Policyholders pay regular premiums to maintain life insurance policy
      • Lump sum payout: Life insurance company pays a fixed amount to beneficiaries upon the policyholder's death
      • Fixed liability: Amount of liability is predetermined and fixed at the time of policyholder's lifespan
      • Investment strategy: fund (pool of premiums collected from policyholders) will be invested in assets:
        • Government and corporate bonds
        • Stock and equities
        • Real estate
        • Other assets

    Reinsurance

    • Financial practice in which insurance companies reduce their exposure to significant claims by transferring part of their risk to another insurer, called "reinsurer"
    • Helps insurers maintain financial stability and manage risk more effectively
    • Reinsurance enhances the primary insurer's capacity to underwrite policies, improves solvency
    • Types of reinsurance:
      • Proportional reinsurance: insurer and reinsurer share premiums and claims in a fixed ratio

    Contracts for Difference (CFDs)

    • Financial agreement between 2 parties, that stipulates that the buyer will pay the seller the difference between the current value of an asset and its value at the time the contract was initiated
    • Form of derivative, cash settled
    • Very short-term
    • Essentially bets as to whether the price of the underlying asset or security will rise or fall:
      • Those expecting an upwards movement in price will buy the CFD
      • Those expecting a downwards movement will sell the CFD
    • OTC
    • Trade on margin
    • Tradeable contract between a client and their broker
    • Offer benefits and risks of owning a security without owning it
    • Leverage allows investors to put up only a small percentage of the trade amount with a broker
    • Common types:
      • Commodity CFD
      • Index CFD
      • Share CFD
      • FOREX CFD
      • Cryptocurrency CFD

    Margin & Leverage

    • Margin represent the minimum balance you will need in your account to trade (often expressed as a percentage of the trade value)
    • Brokers may offer leverage, and this can differ based on:
      • Underlying contract
      • Contract size
      • Type of clients

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    Description

    This quiz explores the key differences and features of Exchange-Traded Funds (ETFs) and Investment Trusts. Understand how share pricing, liquidity, and trading mechanisms vary between these investment vehicles. Test your knowledge about their structure, benefits, and market behavior.

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