Question

In: Finance

ABC Domestic Equity Fund sells two types of share, A+ and B+


ABC Domestic Equity Fund sells two types of share, A+ and B+. A+ shares are sold with front-end load fee of 5% whilst Type B+ shares are not subject front-end load fee but are charged to investment management fee of 1% per annum as well as exit (back-end load) fee that start at 12% and reduce by 2% for each full year the investor holds the portfolio (until the 6th year). The annual rate of return for both types of share is 15%.


(a) Calculate the value of a Rs 25,000 investment made by investor Mr Paul Halp in Type A+ shares if the shares are disposed after (i) one year and (ii) 5 years.

(b) Calculate the value of a Rs 25,000 investment made by investor Mrs Jacqueline Halp in Type B+ shares if the shares are disposed after (i) one year and (ii) 5 years.

(c) As an analyst, which types of share will you recommend the investor to buy?

Solutions

Expert Solution

a]

(i)

Value of investment = initial amount invested * (1 - front load) * (1 + rate of return)n

where n = number of years

Value of investment = 25,000 * (1 - 5%) * (1 + 15%)1

Value of investment = Rs 27,312.50

(ii)

Value of investment = initial amount invested * (1 - front load) * (1 + rate of return)n

where n = number of years

Value of investment = 25,000 * (1 - 5%) * (1 + 15%)5

Value of investment = Rs 47,769.73

b]

(i)

Value of investment = initial amount invested * (1 + net rate of return)n * (1 - back load)

where n = number of years

net rate of return = gross rate of return - investment management fee = 15% - 1% = 14%

Value of investment = 25,000 * (1 + 14%)1 * (1 - 12%)

Value of investment = Rs 25,080.00

(ii)

Value of investment = initial amount invested * (1 + net rate of return)n * (1 - back load)

where n = number of years

net rate of return = gross rate of return - investment management fee = 15% - 1% = 14%

The back load decreases by 2% each year. Hence, at the end of 5th year, back load = 4%.

Value of investment = 25,000 * (1 + 14%)5 * (1 - 4%)

Value of investment = Rs 46,209.95

c]

It is recommended to buy A+ type of shares because the value of investment is higher with A+ type in both cases, i.e. disposal after 1 year / 5 years.


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