Round 2 in the pop quiz on mutual fund basics

Your Funds

Dollars & Sense

March 11, 2001|By CHARLES JAFFE

IF THE first half of my pop quiz on mutual fund basics left you a bit shaken last week, today's installment should give you a good idea of what to do next.

The questions aren't designed to fool you, just to gauge your level of knowledge and awareness.

Good luck.

1. Yes or no: In a taxable account, you make a telephone transfer from Fund A into Fund B. You never touch the money. Do you owe capital gains taxes on your profits from ABC Growth?

2. Of the following items, which are not included when a fund calculates its total expense ratio? a. securities trading costs. b. management fees. c. 12b-1 fees for sales and marketing of the fund. d. front- or back-end sales charges. e. shareholder mailings. f. interest expenses the fund incurs when borrowing money. g. account maintenance fees.

3. Putnam OTC Emerging Growth gained 127 percent in 1999. It lost 51 percent in 2000. What was the fund's average annualized gain for those two years? a. 38 percent. b. 11.5 percent. c. 5.5 percent. d. 0.5 percent.

4. True or false: a "no-load mutual fund" can charge shareholders a 12b-1 fee for sales and marketing of the fund.

5. True or false: Every time a fund pays shareholders a capital gain or dividend distribution, its share price falls by the amount of that distribution.

6. In which fund category would an expense ratio of 1.6 percent not be considered above average? a. international. b. small-cap growth. c. large-cap growth. d. general bond funds.

7. Where in the shareholder report can you learn if your fund is shorting stocks - investing to profit when stocks go down - or engaging in other complex, nonstandard investment practices? a. in the list of portfolio holdings. b. footnotes. c. in the letter from the portfolio manager.

8. You're in the 28 percent tax bracket. Which bond fund gives you a greater after-tax return? a. a national municipal bond fund yielding 5.5 percent. b. a corporate bond fund yielding 7.0 percent?

9. True or false: If a fund invests only in insured bonds or U.S. government bonds, you can't lose money.

10. You want to change your fund account; the fund firm asks for a signature guarantee. You get that guarantee from your: a. notary public. b. banker. c. lawyer.

Answers:

1. Yes. Touching the money is not the issue here. This is a sale, and that means you have to give the government its due for any profits you realize when you make the transfer.

2. a, d, f and g. Trading costs, interest expenses, and any fee that is neither predictable nor associated with the day-to-day management of the fund are left out of the expense ratio.

3. c. A $1,000 investment grew to $2,270 during 1999, but shrank to $1,112 by the end of 2000. The resulting $112 two-year profit equals average annualized growth of roughly 5.5 percent.

4. True. While a "load" is a sales charge and a 12b-1 fee is levied for sales and marketing costs, a fund can be described as "no-load" so long as its 12b-1 fee is less than 0.25 percent.

5. True. Accumulated capital gains and dividends are reflected in a fund's share price until they are paid out. If a fund trades at $10 per share and pays out $1 distribution, its share price will fall to $9 when the payout is made.

6. a. In any category where returns for all funds tend to fall in a narrow range (due to common and easy research), your funds should be low cost, preferably around 1 percent. Lipper Inc. pegs the average expense ratio for international funds at 1.7 percent, with general bond funds at 1.0 percent, large-cap funds at 1.4 percent and small-cap funds at 1.5 percent.

7. b. A fund's prospectus will tell you if a fund is allowed to engage in nonstandard investments, but you'll discover if the fund practices those methods only by reading the footnotes to the portfolio holding section of the shareholder report.

8. a. The after-tax yield on the corporate fund is 5.04 percent (7.0 percent multiplied by 0.72), while the muni-bond's after-tax yield is the entire 5.5 percent.

9. False. Every fund has investment risk. If interest rates rise, the market value of a portfolio's holdings - even guaranteed bonds - declines, reducing the value of your shares.

10. b. Some firms require written instructions plus a bank's guarantee that your signature is real before closing accounts, processing redemptions or changing an automatic investment plan.

Chuck Jaffe is mutual funds columnist at the Boston Globe. He can be reached by e-mail at jaffe@globe.com or at the Boston Globe, Box 2378, Boston, Mass. 02107-2378.

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