Finding the Way around Investment Funds: Detailed Guide

There is a great variety of business models available nowadays, the investment fund is one of them. We have seen recently a palpable increase in requests for the creation of investment funds. Why are they so popular?

What is an investment fund?

Investment funds are a type of collective investment scheme where all fund members contribute their money. Investment funds are set up and administered by managing companies. Funds manage the assets of many investors and invest them in securities such as shares, bonds, treasury bills, real estate, and other financial instruments.

Why create an investment fund – Key reasons

We have singled out the main reasons for investment fund popularity:

• Instead of buying one or two company shares on one’s own, investors get the chance to access a basket of multiple companies – 20 to 200 on the average, and sometimes other assets as well, such as real estate, bonds, and commodities
• An opportunity to attract an unlimited number of investors and investments
• Every investor holds their own shares but they have no influence on where the money is invested within the fund. This is the competence of the investment manager who decides which assets to buy or sell, how many, and when

Investors select the investment fund depending on the fund’s goal – they usually target a specific geographic region or industry. Investment funds can take on various forms which we will further consider

How does one set up an investment fund?

First, it is necessary to decide on the investment fund type and choose a fitting jurisdiction. There are thousands of funds granting access to miscellaneous asset classes, geographic areas, and investing styles which vary in growth, cost, and income.

What kinds of investment funds are there?

There are basically open-end and closed-end investment funds:

Closed-end funds raise a fixed amount of capital through an initial public offering. After that, the fund’s shares are traded on an exchange (e.g. New York Stock Exchange), like the shares of individual companies. When an investor wishes to purchase or sell shares of closed-end funds, they trade on the exchange with other buyers or sellers.

Open-end funds are companies with a variable capital whose profits are distributed among shareholders as dividends or increased stakes. Their profit allocation process is different from that of closed-end funds, hence a different tax treatment. Open-end investment companies enjoy various benefits while closed-end ones are subject to corporate tax like all other joint-stock companies.

Types of closed-end investment funds

A family trust is a type of private fund set up by a family. It is financed with family assets and is often managed by family members who can also participate in providing charity grants. It is maintained as long as the family needs it and can be adapted to changes in the family’s composition.

Funds of this kind are popular among affluent families, members of investment clubs, and other partners looking to preserve family capital and invest in various assets under a collective scheme. Private family trusts offer an opportunity to consolidate assets and obtain a clear understanding of the collective wealth pool. The access to assets held in a private family fund can be controlled to ensure the achievement of family goals. There are no specific legal requirements for family trusts: this is a type of private fund managed and financed by family members.

Private equity funds are a collective investment scheme used to invest in miscellaneous assets and debt instruments. Those are managed by firms or limited liability partnerships. The ownership term (investment horizon) for this type of fund is 5 to 10 years with the option of an annual extension. The key feature is that the money consolidated to invest the fund is not traded in the stock exchange and that not everyone can subscribe.

Since private equity funds are not available to everyone, the money is generally raised by institutional investors who can afford to contribute larger amounts for a longer period of time. A team of investment experts from a specific investment company raises and manages the finances, using the money to attract new capital, make future acquisitions, finance startups or new technologies, invest in other private companies, or build up the existing fund. Private equity funds are a great opportunity to achieve a high return on investment.

Types of open-end investment funds

Mutual funds are companies consolidating the finances of multiple investors and placing money in securities, such as shares, bonds, and short-term debt instruments. The pooled shares of a mutual fund constitute its portfolio. Each share that investors buy represents their stake in the fund and the income it yields.

Mutual funds are popular among investors for the following reasons:

• Professional management. Fund managers conduct research for you, choose securities and follow up their settlement
• Diversification, or “Do not put all your eggs in one basket”. Mutual funds usually invest in different companies and industries, helping mitigate the risks if one company goes bankrupt
• Affordability. Most mutual funds set a small US dollar amount for initial investments and subsequent purchases
• Liquidity. Mutual fund investors can easily buy out their shares any time at the current net asset value

Hedge funds are investment pools created by a limited number of partners (investors) and managed by professionals pursuing specific objectives – in most cases, maximization of profits and minimization of risks. Hedge funds are accessible to qualified (affluent) investors only.

Hedge funds may invest in anything, be that real estate or foreign currency or any other assets; this is one of the many aspects distinguishing hedge funds from mutual funds which generally invest in shares or bonds only.

The goals of all hedge funds are to maximize return on investment and rule out risks irrespective of whether the market is going up or down.

Venture funds are joint investment funds managing the finances of investors who are looking for shares in the private equity of startups and SMEs with strong growth potential. Investments of this type are usually described as opportunities with very high risk/high return on investment.

In the past, venture investments were only available to professional venture capital owners but now accredited investors have more chances to participate in venture investments. Nonetheless, venture funds still remain inaccessible for regular investors.

We have outlined key aspects one should be aware of before venturing to open an investment fund. Coming next, a detailed overview of all the advantages and pitfalls of the most popular jurisdictions for setting up an investment fund.

If you are considering establishing an investment fund, it is best to refer to professionals. SBSB has an extensive portfolio of successful investment fund creation in various jurisdictions. Email us at info@sb-sb.com or join our Telegram chat for a free top-quality consultation.