Series 6: Chapter Five

Chapter Five

Investment Companies

An investment company is a company whose primary business is to invest in and issue securities. It collects and pools money from a number of customers and invests it in packages of securities whose profits and losses are shared in proportion to the customers’ ownership shares of that package. In this way, investment companies offer investors in securities an economical way to diversify risk. Investment companies are considered packaged products or packaged securities.

The Investment Company Act of 1940 defines three types of investment companies: face-amount certificates, unit investment trusts, and management companies. Face-amount certificates are debt securities backed by assets such as real property or other securities. Because face-amount certificates are not very common, we will focus on the other two. A unit investment trust is a holding company that purchases a pool of securities and holds them until a set termination date. The pool of securities does not change from the time the trust was created, so the trust is considered unmanaged. A management company, by contrast, manages and trades the securities within a portfolio and does not have a set termination date.

Management companies come in two types. A closed-end fund issues a fixed number of shares in an IPO. The shares can be traded with other investors in a secondary market but