2. ( 5 points ) You are considering an investment in mutual fund ABC. (a) It has
ID: 2771961 • Letter: 2
Question
2. (5 points) You are considering an investment in mutual fund ABC.
(a) It has a NAV per share of $20 on January 1, 2009. On December 31 of the same year the fund's NAV is $20.20. Income distributions were $1.19 and the fund had capital gain distributions of $0.81. Without considering taxes and transactions costs, what is the total rate of return to an investor in this fund during 2009? (1 points)
(b) Assume that fund ABC will keep the same rate of return for the next 10 years. It sells Class A and B shares with different fee structures (shown in the following table). If you plan to sell the fund after 3 years, are Class A or B shares the better choice for you? What if you plan to sell after 10 years? (4 points)
Class A
Class B
Front-end load
5%
0%
Back-end load
0%
5% at the beginning of the first year, fall by 1% every year (until 5th year)
Expense ratio
1.25%
1.5%
12b-1 fee
0%
0.5%
Class A
Class B
Front-end load
5%
0%
Explanation / Answer
Fund Return = (Increase in NAV+Income Distributions+Capital gain distributions)/(Opening NAV)
= (0.20+1.19+0.81)/(20.0)
= (2.20)/(20.0) = `11%
Return = 11% without any transaction cost.
With expense ratio and 12b-1 fee class A and class B give return of 9.75% and 9% respectively.
Return for a mutual fund
= {(1-front end load)*[(1+annualreturn-costs)^no of years of investments]*(1- back end load)} -1
After 3 years return
Class A = {(1-5%)*(1+11%-1.25%)^3*(1-0%)}-1 =25.58%
Class B = {(1-0%)*(1+11%-1.50%-0.50%)^3*(1-3%)}-1 =25.61%
Class B is better for 3 year tenor
After 10 year return
Class A = {(1-5%)*(1+11%-1.25%)^10*(1-0%)}-1 =140.86%
Class B = {(1-0%)*(1+11%-1.50%-0.50%)^10*(1-0%)}-1 =136.73%
Class A is better for 10 year tenor.
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