Direct_vs_Indirect_Investing

Direct versus Indirect Investing: What’s In It for Me' Beth Blackaby Axia College University of Phoenix What is the best approach to investing' When beginning to invest, we all may take a different approach. Investors always have the option of direct investing, making their own buy and sell decisions, typically through a brokerage account (Bidlisiw, 2008). Direct investing allows the investor to make decisions for them. Indirect investing allows the investor to hold assets through pension funds and mutual funds. This is where they hire a manager or an organization to do the investing for them. The investment company or pension fund owns a portfolio of securities, and the shareholders of the investment company or the beneficiaries of the pension fund indirectly own the portfolio of securities (Bidlisiw, 2008). With each type of investing, direct and indirect investing, there are different types of investments that the individual investor must choose, each with their own liability of risk and return. There are several different types of investments available when the direct investing approach is taken. Saving Deposits, Treasury Bills (T-Bills), U.S. Savings Bonds, preferred stocks, and common stocks are all direct investments that investors may choose. Each investment has different risk involved when choosing that particular investment, but investors can buy and sell the securities themselves. They have direct control over them. Treasury bills, or T-bills, are sold in terms ranging from a few days to 52 weeks. Bills are typically sold at a discount from the par amount (also called face value). For instance, you might pay $990 for a $1,000 bill. When the bill matures, you would be paid $1,000. The difference between the purchase price and face value is interest. It is possible for a bill auction to result in a price equal to par, which means that Treasury will issue and redeem the securities at par value (Treasury Direct, 2009). An example is the Permanent PT FD Inc. Treasury Bill PT (PRTBX). This is a low risk investment that has an objective of government short-term investment, an asset class debt, and its geographic focus is the United States (Bloomberg, 2009). Permanent Treasury Bill Portfolio is an open-end fund incorporated in the USA. The Fund's objective is to earn high current income, consistent with safety of principal. The Fund invests at least 80% of its assets in short-term U.S. Treasury bills and notes. It also invests in U.S. Treasury bonds and notes having a remaining maturity of thirteen months or less (Bloomberg, 2009). Another type of direct investment is the U.S. Savings Bond. The Ivy Bond (IBOAX) is an example of this type of investment. It also is a low risk investment. The Fund may invest in any market that is believed to offer a high probability of return or, alternatively, that provides a high degree of safety in uncertain times. Dependent on the outlook for the U.S. and global economies, it is made to top-down allocations among stocks, bonds, cash, precious metals (for defensive purposes) and currency markets around the globe. After determining allocations, the fund seeks attractive opportunities within each market (Ivy Funds, 2009). Bonds and common stocks are also types of direct investments. They are more risky than treasury bills and U.S. savings bonds. Bonds and common stocks are affected by the market and will fluctuate in their return. The fluctuation is different for both, with the common stock being more risky than the bond. An example of the bond investment is the California Short-term U.S. Government Bond (STUKX). The Short-Term U.S. Government Bond Fund is made up of U.S Government Securities, primarily short and intermediate-term treasury bonds, notes and bills. The bonds in the fund are backed by the full faith and credit of the United States Government, meaning that the Government insures the bonds against default, but not the fund itself. Short-term bond funds typically pay lower dividends than long-term bond funds. However, the share price is usually less volatile. In other words, an investor earns a lower yield by avoiding higher risk. This fund seeks to maximize current income and moderate volatility by investing in shorter-term U.S. Government Securities (California Investment Trust, 2009). Common stocks are the other investment that is a direct investment. Harley Davidson (HOG) is an example of a common stock. This common stock fluctuates with the market. The return is not guaranteed, but is expected to have a greater return. With all investments, Harley Davidson stock has a greater risk when investing in the company. In the end, the return is expected to be greater. Looking at the price of HOG common stock, the 52 week high is $48.05 and the 52 week low is $7.99 (NASDAQ, 2009). With the price difference you can see how the return of a common stock can fluctuate with the market causing it to have a greater risk. The investor will see loss, but can also see gains with the fluctuation. The other type of investment options that investors have is indirect investing. This is where the investor is able to invest their money, and allows the investor to hold assets through pension funds and mutual funds. This is where they hire a manager or an organization to do the investing for them. Mutual funds and Exchange traded funds are the types of investments that investors who choose indirect vesting are able to invest in. Fidelity Magellan (FMAGX) is an example of a mutual fund. This fund’s strategy, the method used by the fund to choose investments, is normally investing primarily in common stocks, investing in either "growth" stocks or "value" stocks or both (Fidelity, 2009). It fluctuates with the market like stocks, causing it to have a greater risk, but expected to have a greater return like the common stock. An exchange-traded fund (ETF) is a basket of securities designed to replicate the performance of a stock or bond index (e.g., S&P 500, DJIA). ETFs are listed on an exchange and can be traded intraday at a price set by the market (Fidelity, 2009). Sector SPDRs is one of the longest standing ETFs that are out there. They've been around for over 10 years, and the Sector SPDRs are some really useful products, whether they are used as stock substitutes or in building portfolios (Morningstar, 2009). ETFs add the flexibility, ease, and liquidity of stock trading to the benefits of traditional index fund investing. To better understand ETFs, it may be helpful to understand index funds, which share some similarities. Both ETFs and Index Funds (Fidelity, 2009): * Allow you to buy an interest in an entire portfolio of securities by purchasing a single security * Are passively managed and have limited expenses * Are designed to track the performance of an unmanaged index * Track a broad market index or target a specific sector or segment of the market * Track markets in various regions or countries Whether an investor chooses to use the direct or indirect investing approach, they will experience risk within their investment, unless they choose a “safe” fund like the Treasury bill or the U.S. Savings bond. They will not have the same risk with a bond that they would a common stock, mutual fund (depending on what the funds chooses to invest in), or the ETF. The chart below (Figure 1) will show you the comparison between direct and indirect investing and the risk involved with each type of fund. Type of Investment | Name of Investment | Risk Rating | Direct Investment | Permanent PT FD Inc. Treasury Bill | 1-Low | Direct Investment | Ivy Bond | 1-Low | Direct Investment | California Short-term US Govt Bond | 3-Mid to Low | Direct Investment | Harley Davidson | 4-Mid to High | Indirect Investment | Fidelity Magellan | 4-Mid to High | Indirect Investment | Biotech HOLDERs | 5-High | Indirect Investment | Cohen & Steers Global Realty Majors ETF | 5-High | Indirect Investment | Fidelity High Income Fund | 3-Mid | Figure 1: Fund information provided by Fidelity Investments, 2009. Each investor will have a different risk tolerance when it comes to investing. The best choice of investment will depend on the individual themselves. Some may choose a direct investment like the Treasury bill or the U.S. Savings bond, because the investment is low risk. The return is “safe” and they know they will receive something when the time of maturity is reached. Others may choose an investment like the common stock, Harley Davidson, which does not guarantee a return but is likely to have a greater return than that of the U.S. Savings bond or Treasury bill. The greater the risk, the greater the return, when investing this is how many of the funds are looked at. Investors expect that if they are taking a greater risk, as in that of a fund that fluctuates with the market and do not guarantee the return, the greater the return they will receive. References Bidlisiw, (2009). Direct Investing versus Indirect Investing. Retrieved July 9, 2009 from www.bidlisiw.com Bloomberg, (2009). US Permanent Bill Portfolio. Retrieved July 10, 2009 from www.bloomberg.com California Investment Trust, (2009). Short-term US Government Bond Fund. Retrieved July 10, 2009 from www.caltrust.com Fidelity Investments, (2009). Retirement Planning. Retrieved July 10, 2009 from www.fidelity.com Ivy Funds, (2009). Ivy Asset Strategy Fund Class A Shares. Retrieved July 9, 2009 from www.ivyfunds.com MorningStar, (2009). Exchange Traded Funds. Retrieved July 11, 2009 from www.morningstar.com NASDAQ, (2009). Harley Davidson (HOG). Retrieved July 11, 2009 from www.nasdaq.com Treasury Direct, (2009, April). Treasury Bills. Retrieved July 9, 2009 from www.treasurydirect.gov