The Investment Company Act of 1940, often just called the “’40 Act,” is one of the legislative cornerstones of the American financial system. Alongside the Securities Exchange Act of 1934 and the Investment Advisers Act of 1940, the ’40 Act regulates the establishment, operations, and reporting requirements for U.S.-registered investment funds.
The funds registered under the ’40 Act fall into four broad categories: open-end mutual funds, exchange-traded funds (ETFs), closed-end funds (CEFs), and unit investment trusts (UITs).
The SEC defines an investment company as "an issuer that is engaged or proposes to engage in the business of investing, reinvesting, owning, holding, or trading in securities, and owns or proposes to acquire 'investment securities' having a value exceeding 40% of the value of its total assets (exclusive of government securities and cash items) on an unconsolidated basis."
Section 3 of the ’40 Act grants certain registration exemptions to private funds and those that limit their shareholders to accredited investors only. Therefore, although private funds like hedge funds and private debt funds fall under the umbrella of “investment companies,” most of the provisions of the ’40 Act aren’t relevant to their operations.
Below, we cover the basics of each category of registered ’40 Act fund.
OPEN-END MUTUAL FUNDS
Open-end mutual funds, the largest fund category, operate in a model that will be familiar to many investors. Though other fund types can technically be "mutual funds," the term is almost always used to refer to a specific, straightforward, and tremendously popular type of investment vehicle. Mutual funds' defining characteristics are:
· Mutual funds offer daily sale and redemption of shares, which can be bought via a broker or directly from the fund.
· Mutual fund shares are priced daily at net asset value (NAV).
· Mutual funds can be publicly listed and open to all investors or privately offered and only available to accredited or institutional investors.
· Mutual funds are actively managed, but they tend to charge lower fees than closed-end funds.
· Mutual funds typically hold highly liquid securities, with a 15% limit placed on the proportion of illiquid assets they can hold.
EXCHANGE-TRADED FUNDS (ETFs)
ETFs were established by the SEC in 1993, and they’ve grown significantly in popularity since then. Although ETFs can technically operate either as open-end mutual funds or UITs that trade shares on an exchange, their essential characteristics put them in an effective category of their own. Those include:
· ETF shares are bought and sold on an exchange, which is facilitated by an intermediate party acting as an interface between the fund and the traders.
· All ETFs are open to the public, and most of their share transactions happen trader-to-trader without a change in the fund’s underlying holdings.
· Most ETFs are passively managed and track a specific sector or index. Therefore, they tend to have the lowest management fees of all managed ’40 Act funds.
· ETF shares are sold at or very close to NAV, and their value is continuously stabilized by calculated buying and selling by the facilitator of the exchange.
· Like mutual funds, ETFs typically hold highly liquid securities and are subject to the same 15% illiquidity threshold.
TRADITIONAL CLOSED-END FUNDS (CEFs)
Under the definitions provided by the ’40 Act, several different distinct fund types are classified as “closed-end funds.” However, when the term is invoked, it usually refers to the traditional closed-end fund structure. These funds, often called CEFs, are one of the oldest types of investment fund. Their defining characteristics are:
· CEFs offer their shares once during an initial public offering, after which all shares must be bought and sold on a secondary market at market price. This price often deviates significantly from the fund’s NAV.
· CEFs can be either publicly listed and available to all investors or privately offered and available only to accredited investors.
· CEFs are actively managed, and they often have high management fees.
· CEFs have no limit on the proportion of illiquid assets they can hold, and they’re often used to gain exposure to alternative securities not available through open-end mutual funds or ETFs.
OTHER TYPES OF CLOSED-END FUNDS
As noted above, the term “closed-end fund” is highly ambiguous. There are several varieties of ’40 Act fund that are technically closed-end but which offer their shares continuously, initiate periodic portfolio turnover, and provide investors with the opportunity to redeem shares for cash.
· Interval funds continuously offer shares directly from the fund, will redeem shares on regular intervals throughout the year, and are typically used to gain exposure to illiquid, alternative assets. Their shares are bought and sold at NAV, which is calculated daily.
· Tender offer funds are very similar to interval funds, save for the fact that they have more flexibility in when they offer to buy back shares and fewer options for offering new share classes.
· Business development companies can either sell their shares on a secondary market like a CEF or offer them continuously and provide periodic redemption like an interval fund. These funds are used to gain exposure to high-yield debt from small, private companies.
Of these three categories, interval funds represent the largest share of registered closed-end funds. As of 2020, they represent about 18% of CEF assets under management.
Data Source: Investment Companies Institute, 2021 & IntervalFunds.org
UNIT INVESTMENT TRUSTS
UITs, which have fallen out of favor in recent years, offer investors a product that combines characteristics from all of the above-listed fund types. For instance:
· Like a CEF, a UIT offers its shares only once, and it uses the proceeds from that initial public offering to buy a collection of usually fixed-income securities. The fund doesn’t create any more shares throughout its existence.
· Like some CEFs, UITs have a fixed operational lifespan after which its holdings will be liquidated and distributed to its shareholders.
· Like an open-end fund, a UIT will redeem investors’ shares for cash, usually once a day at NAV.
· Unlike the other fund types, UITs don’t have a board of directors, officers, or an investment advisor.
· UITs usually don’t change their portfolios, instead purchasing a pool of securities at the beginning of the fund’s operations and providing dividends to investors via those securities’ fixed-income yields.
BY THE NUMBERS
Of today’s ’40 Act funds, open-end mutual funds dominate both in number of registered funds and total assets. According to the Investment Companies Institute, of the 16,127 registered funds at the end of 2020, 9,027 of those were open-end mutual funds – followed by UITs (4,310), ETFs (2,296), and CEFs (494).
Data Source: Investment Companies Institute, 2021
UITs and mutual funds have been available to investors for longer than ETFs, and in recent years the number of UITs has been trending downward while the quantity of available ETFs has grown considerably.
Data Source: Investment Companies Institute, 2021
Mutual funds hold the lion’s share of total assets under management, controlling $23.9 trillion of the $29.7 trillion managed by U.S.-registered ’40 Act funds. This is followed by $5.5 trillion in ETFs, $279 billion in CEFs, and $78 billion in UITs.
Data Source: Investment Companies Institute, 2021
In the same theme: total assets for both mutual funds and ETFs have been growing steadily in recent years, while the money managed by CEFs and UITs has been comparatively small and flat.
Data Source: Investment Companies Institute, 2021
Though it's difficult to create accurate predictions from past trends, the growing popularity of both mutual funds and ETFs indicate a widening of the existing volume gaps among '40 Act Funds. As more retail investors enter a space traditionally reserved for financial professionals, trends toward low-fee, publicly traded funds may begin to accelerate.
FAQs
A '40 Act fund is a pooled investment vehicle offered by a registered investment company as defined in the 1940 Investment Companies Act (commonly referred to in the United States as the '40 Act or, in some instances, the Investment Company Act (ICA).
Are private funds 40 Act funds? ›
To differentiate from listed closed-end funds, ETFs and open-end mutual funds, we will refer to privately placed funds that incorporate access to private capital as the '40 Act Market, consistent with the term used by many practitioners.
What are the effects of the 40 Act? ›
The Act impacted the registration and requirements of many investment companies and made financial regulation tighter, giving the SEC more power to oversee the financial markets. It created rules that protected investors and required investment companies to disclose certain information.
What is the purpose of the 1940 Act? ›
Considered one of the most important pieces of regulation governing the US stock market, the Investment Company Act of 1940 is a law that Congress passed to define and regulate mutual funds and closed-end funds as well as hedge funds, private equity funds and holding companies.
Are all ETFs 40 Act funds? ›
No. ETFs can vary in a number of ways: Regulatory structure. Most ETFs are registered with the SEC as investment companies under the Investment Company Act of 1940, and the shares they offer to the public are registered under the Securities Act of 1933.
How many 40 Act funds are there? ›
Of today's '40 Act funds, open-end mutual funds dominate both in number of registered funds and total assets. According to the Investment Companies Institute, of the 16,127 registered funds at the end of 2020, 9,027 of those were open-end mutual funds – followed by UITs (4,310), ETFs (2,296), and CEFs (494).
Can 40 Act funds use leverage? ›
Adding leverage can also enhance a CEF's distribution rate. There are costs to adding leverage to a portfolio. While the Investment Company Act of 1940 allows CEFs to issue debt and preferred shares (with certain limitations), CEFs can also use non-'40 Act leverage.
Are private investment funds for wealthy? ›
In addition to investment flexibility, private investment funds can be vehicles of choice for handling significant family wealth. Extremely wealthy families can create private investment funds to invest the wealth with the family members as shareholders.
Is an interval fund a 40 Act fund? ›
Interval funds are legally classified as closed-end funds, and are registered under the Investment Company Act of 1940 and typically subject to the Securities Act of 1933 and the Securities Exchange Act of 1934.
What qualifies you as an accredited investor? ›
The SEC defines an accredited investor as either: an individual with gross income exceeding $200,000 in each of the two most recent years or joint income with a spouse or partner exceeding $300,000 for those years and a reasonable expectation of the same income level in the current year.
The Investment Company Act applies to all investment companies, but exempts several types of investment companies from the act's coverage. The most common exemptions are found in Sections 3(c)(1) and 3(c)(7) of the act and include hedge funds.
What is considered an investment company under the 1940 Act? ›
Section 3(a)(1)(A) of the Investment Company Act defines an investment company as an issuer which is or holds itself out as being engaged primarily, or proposes to engage primarily, in the business of investing, reinvesting or trading in “securities.” See Section 2(a)(36) of the Investment Company Act of the Investment ...
Is a BDC a 40 Act fund? ›
A BDC is not, as a technical matter, registered under the 1940 Act, but elects to be subject to regulation by the SEC under many of the provisions of the 1940 Act, including independence requirements for board members, valuation requirements and restrictions on investments in other investment companies.
How do you know if a company is an investment company? ›
An investment company is a corporation or trust engaged in the business of investing the pooled capital of investors in financial securities. This is most often done either through a closed-end fund or an open-end fund (also referred to as a mutual fund).
Who regulates investment companies? ›
The SEC is the federal agency responsible for overseeing the securities industry, including the registration and regulation of investment companies, investment advisers and broker-dealers.
How many ETFs should I own? ›
Experts agree that for most personal investors, a portfolio comprising 5 to 10 ETFs is perfect in terms of diversification. But the number of ETFs is not what you should be looking at. Rather, you should consider the number of different sources of risk you are getting with those ETFs.
Why choose an ETF over a mutual fund? ›
Tax-Friendly Investing—Unlike mutual funds, ETFs are very tax-efficient. Mutual funds typically have capital gain payouts at year-end, due to redemptions throughout the year; ETFs minimize capital gains by doing like-kind exchanges of stock, thus shielding the fund from any need to sell stocks to meet redemptions.
What is the difference between a fund and an ETF? ›
With a mutual fund, you buy and sell based on dollars, not market price or shares. And you can specify any dollar amount you want—down to the penny or as a nice round figure, like $3,000. With an ETF, you buy and sell based on market price—and you can only trade full shares.
Can closed-end funds issue new shares? ›
As a result, closed-end funds may trade at discounts or premiums to the underlying market value of the portfolio. In addition, closed-end funds, unlike ETFs, may issue debt or preferred shares to raise additional capital to purchase more securities for its portfolio.
What is open-end funds and closed fund? ›
Key Takeaways
A closed-end fund has a fixed number of shares offered by an investment company through an initial public offering. Open-end funds (which most of us think of when we think mutual funds) are offered through a fund company that sells shares directly to investors.
What Is a Unit Investment Trust (UIT)? A unit investment trust (UIT) is an investment company that offers a fixed portfolio, generally of stocks and bonds, as redeemable units to investors for a specific period of time. It is designed to provide capital appreciation and/or dividend income.
Are closed-end funds risky? ›
While all investments come with some form of risk, closed-end funds carry more risk than others. Many investors might feel more comfortable investing in an ETF. ETFs trade throughout the day, like a closed-end fund, but they tend to track a market index, such as the S&P 500, which is an index of large U.S. companies.
Are open-end funds redeemable? ›
Open-End Investment Companies
An open-end investment company makes a continuous offering of its shares that are redeemable.
Are closed-end funds redeemable? ›
A closed-end fund generally is not required to buy its shares back from investors upon request. That is, closed-end fund shares generally are not redeemable. In addition, they are allowed to hold a greater percentage of illiquid securities in their investment portfolios than mutual funds are.
What is considered a high net worth portfolio? ›
How Are HNWIs Categorized? The most commonly quoted figure for qualification as a high-net-worth individual is at least $1 million in liquid financial assets, excluding personal assets such as a primary residence. Investors with less than $1 million but more than $100,000 liquid assets are considered sub-HNWIs.
Where do high net worth individuals keep their money? ›
High net worth individuals put money into different classifications of financial and real assets, including stocks, mutual funds, retirement accounts and real estate. Most of the 20.27 million millionaires in the U.S. did not inherit their money; only about 20% inherited their money.
Where do the ultra rich invest? ›
are popular investments for millionaires. Examples of cash equivalents are money market mutual funds, certificates of deposit, commercial paper and Treasury bills. Some millionaires keep their cash in Treasury bills that they keep rolling over and reinvesting. They liquidate them when they need the cash.
Are interval funds risky? ›
Are Interval Funds Risky? Interval funds can be considered riskier than standard mutual funds. This is so because they are illiquid and the illiquidity may be a risk to certain investors. Additionally, interval funds can invest in alternative assets, which are inherently riskier than traditional stocks and bonds.
Do interval funds pay dividends? ›
Interval funds receive passive dividend and interest payments from their holdings, and they regularly pass that money on to shareholders as distributions. In most cases, dividends come from a fund's stock holdings and interest comes from debt holdings like bonds.
How do interval funds work? ›
An interval fund is a type of investment company that periodically offers to repurchase its shares from shareholders. That is, the fund periodically offers to buy back a stated portion of its shares from shareholders. Shareholders are not required to accept these offers and sell their shares back to the fund.
The Securities and Exchange Commission (SEC) defines an accredited investor as someone who meets one of following three requirements: Income: Has an annual income of at least $200,000, or $300,000 if combined with a spouse's income. This level of income should be sustained from year to year.
How hard is it to become an accredited investor? ›
In the U.S., an accredited investor is anyone who meets one of the below criteria: Individuals who have an income greater than $200,000 in each of the past two years or whose joint income with a spouse is greater than $300,000 for those years, and a reasonable expectation of the same income level in the current year.
Can I invest without being an accredited investor? ›
How to invest without being an accredited investor requires only that the investor has a net worth of less than $1 million. This includes the net worth of his or her spouse. The investor must also have earned $200,000 or more annually for the last two years.
Who is exempt from Investment Advisers Act 1940? ›
The private fund adviser exemption in Advisers Act section 203(m) directs the Commission to provide an exemption from registration to any investment adviser who solely advises private funds and has assets under management in the United States of less than $150 million.
Do I have to register as an investment company? ›
If a company is created or organized under the federal or state law definition of an investment company, they are required to file a notification of registration with the Securities Exchange Commission (SEC).
Is a REIT an investment company under the Investment Company Act of 1940? ›
REITs rely on Section 3(c)(5)(C) of the Investment Company Act to qualify for exemption from regulation as “investment companies.” Exemption from the Investment Company Act is considered critical for REITs because the operations of most if not all mortgage REITs are incompatible with the Investment Company Act's rules ...
What are three main types of investment companies? ›
A company that issues and invests in securities. The three types of investment companies are mutual funds, closed-end funds, and unit investment trusts.
What is an example of an investment company? ›
Three of the biggest investment management companies in the world are BlackRock Funds (iShares), Vanguard, and Charles Schwab. Each of these firms offers many products to retail clients, including hundreds of mutual funds, exchange-traded funds, and other vehicles covering different asset classes.
What is a registered investment fund? ›
Registered investment companies are registered under the 1940 Act and subject to significant disclosure and ongoing compliance obligations. As registered investment company securities are also registered under the 1933 Act, they may be offered to the public.
How much leverage can a BDC use? ›
In March 2018, President Trump signed the Consolidated Appropriations Act of 2018, which included the Small Business Credit Availability Act (the “BDC Bill”). The BDC Bill effectively allows BDCs to increase leverage from 1:1 debt-to-equity to 2:1 debt-to-equity.
To qualify as a BDC, a company must be registered in compliance with Section 54 of the Investment Company Act of 1940. In addition, it must be a domestic company whose class of securities is registered with the Securities and Exchange Commission (SEC).
How are BDC distributions taxed? ›
BDCs are generally not taxed at the corporate level to the extent they distribute all of their taxable income in the form of dividends. Ordinary income dividends are taxed at individual tax rates and distributions may be subject to state tax.
Which is the biggest investment company in the world? ›
10 Largest Investment Management Companies
- BlackRock. AUM: $9.464 trillion. ...
- The Vanguard Group. AUM: $8.4 trillion. ...
- UBS Group. AUM: $4.432 trillion. ...
- Fidelity. AUM: $4.23 trillion. ...
- State Street Global Advisors. AUM: $3.86 trillion. ...
- Morgan Stanley. AUM: $3.274 trillion. ...
- JPMorgan Chase. AUM: $2.996 trillion. ...
- Allianz. AUM: $2.953 trillion.
Performance Overview: Best Companies to Invest in India
- Reliance Industries Ltd. ...
- Tata Consultancy Services Ltd. ...
- HDFC Bank Ltd. ...
- ITC Ltd. ...
- Hindustan Unilever Ltd. ...
- Wipro. ...
- Infosys Ltd. ...
- State Bank of India.
How to Tell If an Investment Is Good or Bad
- Review a stock's historical price changes over the past 12 months to get a sense of overall performance. ...
- Calculate the stock's price-to-earnings ratio. ...
- Compare the results with the average P/E ratio -- approximately 15 -- for companies that trade in the S&P 500 Index.
| 2022 Rank | 2021 Rank | Firm |
|---|
| 1 | N | Morgan Stanley Private Wealth Management |
| 2 | 1 | Morgan Stanley Private Wealth Management |
| 3 | 2 | Graystone Consulting | Morgan Stanley |
| 4 | 3 | Morgan Stanley Private Wealth Management |
38 more rowsIf you're having a hard time making financial decisions on your own or aren't sure where to start with your economic journey, working with a financial advisor may be worth the time and money. However, if you're already on a solid financial path, you might not benefit much from teaming up with a financial advisor.
How much does an investment advisor make? ›
The average investment advisor salary in India is ₹ 575,000 per year or ₹ 295 per hour. Entry-level positions start at ₹ 325,000 per year, while most experienced workers make up to ₹ 1,045,000 per year.
Are Closed-End Funds 40 Act funds? ›
What Is a Closed-End Fund? Closed-end funds are one of four types of investment companies registered under the Investment Company Act of 1940, along with mutual funds, exchange-traded funds, and unit investment trusts.
Is an interval fund a 40 Act fund? ›
Interval funds are legally classified as closed-end funds, and are registered under the Investment Company Act of 1940 and typically subject to the Securities Act of 1933 and the Securities Exchange Act of 1934.
Adding leverage can also enhance a CEF's distribution rate. There are costs to adding leverage to a portfolio. While the Investment Company Act of 1940 allows CEFs to issue debt and preferred shares (with certain limitations), CEFs can also use non-'40 Act leverage.
What is a 3C7 fund? ›
The 3(c)(7) exemption refers to the Investment Company Act of 1940's section permitting qualifying private funds an exemption from certain SEC regulations. Private funds must not plan to issue an IPO and their investors must be qualified purchases to qualify for the 3C7 exemption.
Are closed-end funds risky? ›
While all investments come with some form of risk, closed-end funds carry more risk than others. Many investors might feel more comfortable investing in an ETF. ETFs trade throughout the day, like a closed-end fund, but they tend to track a market index, such as the S&P 500, which is an index of large U.S. companies.
Can you redeem from a closed-end fund? ›
A closed-end fund generally is not required to buy its shares back from investors upon request. That is, closed-end fund shares generally are not redeemable. In addition, they are allowed to hold a greater percentage of illiquid securities in their investment portfolios than mutual funds are.
How long should I hold onto a long term stock? ›
If you see any giant stock of any good company in a 10 years frame, you will see it has generated good returns in the long term. Though there is no ideal time for holding stock, you should stay invested for at least 1-1.5 years.
Are interval funds risky? ›
Are Interval Funds Risky? Interval funds can be considered riskier than standard mutual funds. This is so because they are illiquid and the illiquidity may be a risk to certain investors. Additionally, interval funds can invest in alternative assets, which are inherently riskier than traditional stocks and bonds.
Do interval funds pay dividends? ›
Interval funds receive passive dividend and interest payments from their holdings, and they regularly pass that money on to shareholders as distributions. In most cases, dividends come from a fund's stock holdings and interest comes from debt holdings like bonds.
How do interval funds work? ›
An interval fund is a type of investment company that periodically offers to repurchase its shares from shareholders. That is, the fund periodically offers to buy back a stated portion of its shares from shareholders. Shareholders are not required to accept these offers and sell their shares back to the fund.
Are open end funds redeemable? ›
Open-End Investment Companies
An open-end investment company makes a continuous offering of its shares that are redeemable.
Does BlackRock use leverage? ›
blackrock.com
Leverage is a strategy that can be employed by closed- end funds (“CEFs”) in an effort to potentially increase income and enhance returns. The use of leverage is subject to risks, including the potential for higher net asset value (“NAV”) and market price volatility and fluctuations of distributions.
The SEC defines an accredited investor as either: an individual with gross income exceeding $200,000 in each of the two most recent years or joint income with a spouse or partner exceeding $300,000 for those years and a reasonable expectation of the same income level in the current year.
Can a fund be both 3C1 and 3C7? ›
Q: CAN THE 3C7 FUND EXCLUSION AND THE 3C1 FUND EXCLUSION BE COMBINED IN A SINGLE FUND IN WHICH THE INVESTORS CONSIST OF QUALIFIED PURCHASERS PLUS UP TO 100 OTHERS? A: No, except in the case of a fund that was in existence on September 1, 1996 and satisfies certain additional requirements.
How many investors can a 3 c 7 fund have? ›
A 3(c)(7) hedge fund is exempt under the Investment Company Act and must comply with two basic requirements: (1) the fund can have only qualified purchasers as investors and (2) the fund can have no more than 499 investors.
Who can invest in a 3C7? ›
As in the case of 3(c)(1) funds, “knowledgeable employees” (as defined above) are permitted to invest in a 3(c)(7) fund, whether or not they are qualified purchasers, without jeopardizing the exemption.
