Collective investing gives small investors the chance to be part of something big. Like any investment, this one also carries its own risks. Thanks to collective investing, however, our investments are professionally managed and regulated. That gives us hope of higher returns and lower risk. Let’s take a look together into the world of collective investing and go through all its advantages and disadvantages.
Collective investing
It is governed by Act No. 240/2013 Coll., on Management Companies and Investment Funds. This interesting type of investment is popular especially abroad. Thanks to the rise of mutual funds and the entry of foreign funds into the domestic market, it has also spread quickly in our country in recent years.
The principle of collective investing is that a special financial institution pools funds from individual investors. As investors, by buying unit certificates (podílové listy) or shares in an investment fund, we entrust our money to the fund this way. We no longer have to worry about investing it ourselves. The fund manager does that for us.
An undoubtedly huge advantage is that the pooled assets are then invested on the basis of diversification (spreading the risk). This means the funds are spread across several investments to minimise the risk of losses. In other words, the costs of making the investment and diversifying it are usually lower than if the investor invested the money this way on their own.
Who takes care of the assets?
The assets and their subsequent appreciation are looked after by a management company or an investment fund. They follow the rules set out in the collective investment law, the implementing decrees, regulations and the collective investment fund’s prospectus. Compliance with these rules is checked not only by the management company (or investment fund) itself but also by a depositary, which also keeps records of the collective investment fund’s assets. Only a bank with the relevant authorisation may act as a depositary.
In recent years, so-called regular investing has become popular. Instead of entrusting our money all at once, we regularly send a specific amount, which we use to buy unit certificates. Their price depends on the current market situation. Thanks to collective investing, we do not need a large amount of capital to start investing.
Forms of collective investment funds
The basic breakdown is:
- mutual funds, through unit certificates,
- investment funds, most often shares.
An investment fund is a legal entity that raises funds by issuing shares that investors buy. These are self-managed entities, meaning they can manage themselves through their own management.
The basic unit of a mutual fund is the unit certificate (podílový list). A mutual fund has no legal personality of its own. It must always be managed by a management company. It is a kind of basket that pools assets together.
Advantages and disadvantages of collective investing
The benefits include, in particular:
- The manager’s professionalism. A professional manager has a vast amount of information, experience and knowledge. They look after the investments very carefully and can limit the risk arising from a possible negative development in one of the assets.
- Diversification. Diversification is an important part of investing. Funds buy a range of assets, which spreads any potential risk very effectively.
- Lower costs. Transaction costs are split between more investors. Lower fees are also helped by the fact that funds trade investment instruments in large volumes.
- Less administrative burden. The manager handles the administrative side. The investor only tracks how well the fund is doing and keeps an overview of how its value is developing. All information is regularly updated on the relevant fund’s website.
Certain types of funds (especially open-ended mutual funds and joint-stock companies with variable share capital) are highly liquid. This means we can sell the shares or unit certificates at any time and turn this asset into cash essentially immediately.
The disadvantages of collective investing include, in particular:
- Returns are not guaranteed. We always have to keep in mind that every investment carries risk. The more money we invest, the greater the risk we face, but there is no return without it. The value of an investment can rise as well as fall. We can reduce the risk with a sufficiently long investment horizon. Investments such as shares are the most profitable over the long term.
- The value of assets often fluctuates. Especially with investments in balanced and equity funds, or in index funds investing in stock indices, we have to expect strong swings in the value of these assets.
- Fees. Before we start investing, we should be cautious and find out all the information about fees. Unit certificates are sometimes priced with a significant mark-up. Entry and exit fees are not unusual.
- The investment is not insured. Investments in open-ended mutual funds are not insured. Open-ended mutual funds are, however, subject to strict regulation under the law. Their management is under the strict oversight of the Czech National Bank (ČNB), an independent auditor and the depositary. Members of the Czech Capital Market Association (Asociace pro kapitálový trh ČR) are required to give truthful information about the fund’s focus and the risks associated with the investment.
A brief history
The basic impetus for collective investing in the Czech Republic was given by voucher privatisation (kupónová privatizace) in the early 1990s. More than 400 funds took part in the first wave of privatisation. These funds managed to acquire 73% of the privatised assets in the first wave. 353 funds took part in the second wave, acquiring 65% of the assets.
Before we get into collective investing, we should find out what results the fund achieves, what its investment strategy, fees and investment horizon are. We have to keep in mind that it is we who will bear the risk of any loss on the investment. So we will be very cautious when choosing a fund and will familiarise ourselves with all the important facts.
