Rick has usually been just a market watcher and not a market participant; however, he recently received

$15,500

for the movie rights to his new book. Rick has never before had the resources to invest and therefore owns no other security investments, but he has followed several telecom stocks over the past year. The share prices have fluctuated dramatically, but Rick is definitely interested in this type of stock. He feels that alternative energy is the way of the future. When you asked Rick if he was comfortable with the risk associated with such an investment, he indicated that he would be if superior returns could be obtained.

Questions

1. Given the fact that Rick only has

$15,500

to invest, explain why he should consider investing in mutual funds rather than individual stocks.

2. In what type(s) of stock mutual fund(s) would you recommend Rick invest? Why?

3. In helping Rick make an investment choice, what factors would you explain to him are most important when choosing a mutual fund?

4. Although most mutual funds will provide Rick with some level of diversification, what type of risk will Rick still be exposed to if he purchases a single mutual fund?

5. To assure Rick of the liquidity and marketability of his investment, would you recommend that he invest in an open-end or closed-end mutual fund? Why?

6. In terms of costs, would you recommend load or no-load funds to Rick? Why?

7. Develop a model portfolio of three mutual fund types (e.g., index, growth, bond, etc.) to help Rick understand the benefits of diversification. Explain your choices. Be sure to consider issues of risk and volatility.

1. Given the fact that Rick only has

$15,500

to invest, explain why he should consider investing in mutual funds rather than individual stocks.(Select all the choices that apply.)

A.Telecommunication stocks tend to be quite volatile and, with

$15,500

to invest, it would be very difficult for Rick to achieve adequate return.

B.

A mutual fund will provide Rick with diversification, professional management, minimal transaction costs, liquidity, flexibility, and a number of useful services.

C.Alternative energy stocks tend to be quite volatile and, with

$15,500

to invest, it would be very difficult for Rick to achieve adequate diversification.

D.

A mutual fund will provide Rick with diversification, professional management, protection against losses, liquidity, flexibility, and a number of useful services.

2. In what type(s) of stock mutual fund(s) would you recommend Rick invest? Why?(Select the best choice below.)

A.

Rick might want to look into an index fund or other diversified growth fund. These types of mutual funds attempt to maximize capital appreciation. While these funds offer almost unlimited future growth, they also are more risky than bond funds or growth and income funds.

B.

Rick's best move would be to thoroughly research several mutual funds of various styles and sectors and to choose two or three funds that best meet his investment objective and time horizon.

C.

Rick should consider investing in a telecom or aggressive growth fund, although he should not invest entirely in one fund or in one sector.

D.

All of the above.

3. In helping Rick make an investment choice, what factors would you explain to him are most important when choosing a mutual fund?

There are many factors to be considered when investing in the securities markets. Rick should first consider his risk and volatility tolerance. Will he be able to sleep after a gain of 10 percent one day and a loss of 12 percent the next? Second, he should define his investment objective and time horizon; a high-tech mutual fund would not be appropriate if Rick needs the money in two years. After narrowing his choices, Rick should thoroughly evaluate the fund, including everything from manager's tenure to turnover ratio and from fund fees to investment services. Last, but not least, he would be advised to periodically monitor his investment choices.

Is the above statement true or false?

False

True

. (Select from the drop-down menu.)

4. Although most mutual funds will provide Rick with some level of diversification, what types of risk will Rick still be exposed to if he purchases a single mutual fund?(Select from the drop-down menus.)

Mutual funds provide diversification, but they do not eliminate all risk. By purchasing only one fund, Rick will be subject to

business risk

inflation risk

call risk

political and regulatory risk

interest rate risk

liquidity risk

financial risk

market risk

exchange rate risk

: the risk of poor decisions made by the fund company. Also, no matter how many funds he purchases, he will always be subject to

systematic risk

unsystematic risk

: risk that affects the entire market as a whole.

5. To assure Rick of the liquidity and marketability of his investment, would you recommend that he invest in an open-end or closed-end mutual fund? Why?(Select from the drop-down menus.)

Open-end

Closed-end

funds don't sell directly to investors, nor will they buy back shares upon demand. The price of the shares in a

open-end

closed-end

fund is determined by supply and demand for those shares, not by their net asset value. Therefore, shares in some

open-end

closed-end

funds sell above, while others sell below, their net asset value. Thus, if Rick is worried about liquidity and marketability, he should invest in

closed-end

open-end

mutual funds, which will always repurchase their shares.

6. In terms of costs, would you recommend load or no-load funds to Rick? Why?

The bottom line is that Rick should keep his expenses as low as possible; expenses erode returns. Expenses only benefit the company, not the investor. Rick should avoid funds with sales commissions and instead seek out no-load funds with minimal expenses.

Is the above statement true or false?

False

True

. (Select from the drop-down menu.)

7. Develop a model portfolio of three mutual fund types (e.g., index, growth, bond, etc.) to help Rick understand the benefits of diversification.

A balanced model portfolio of three mutual fund types will be:(Select the best choice below.)

A.

Aggressive growth fund, small company growth fund, international fund.

B.

Municipal bond fund, U.S. goverment bond fund, target retirement fund.

C.

Money market mutual fund, corporate bond fund, municipal bond fund.

D.

Stock index fund, corporate bond fund, growth fund.