Meaning and Types of Investment Companies. Investment companies are financial institutions obtaining money from individual investors and use it to purchase financial assets like stocks, bonds, etc. from the financial markets. In turn, investors receive certain rights regarding the financial assets that the investment company has bought and the earnings that the company may generate.
Meaning and Types of Investment Companies
Investment companies act as financial intermediaries. Unlike any company, an investment company issues shares of stock to the investors who are stockholders. The stockholders own the investment companies directly and thus own the financial assets indirectly that the company itself owns.
Investment companies are classified as:
- Unit investment trusts
- Managed investment companies.
Managed investment companies can further be categorized as:
- Closed-end investment companies
- Open-end investment companies.
Unit investment trusts
The unit investment trust is an investment company that owns a fixed set of securities for the life of the company meaning that it rarely alters the composition of the portfolio during the life of the company. The unit investment trust has no board of directors and portfolio manager.
Managed investment companies
Managed investment companies are the companies having both board of directors and portfolio manager. It may be an independent firm, an investment adviser, a firm associated with the brokerage, or an insurance company.
Closed-end investment company:
A closed-end investment company issues a fixed number of shares that may be listed with a stock exchange and bought and sold like any company’s shares. It does not stand ready to purchase its own shares whenever one of its owners decides to sell them.
Open-end investment companies:
Commonly known as mutual funds an open-end investment company stands ready to purchase its own shares at or near net asset value. It can also offer new shares to the public for a price at or near their net asset value.
Net asset value (NAV):
The share price of a mutual fund is based on its net asset value per share, which is found by subtracting from the market value of the portfolio of mutual fund’s liabilities and then dividing by the number of mutual fund shares issued. The mathematical expression of net asset value (NAV) is given below:
NAVt = [MPt -LIABt]/MFt
NAVt = [MPt -LIABt]/NOSt
Where, NAVt, MPt, LIABt, MFt and NOSt denote the net asset value of the investment company, market value of the investment company’s assets, liabilities of the investment company, mutual funds and the number of shares outstanding of the investment company respectively at the end of day t.