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1940 Act Registered Products

• Open-end mutual funds
  
• Exchange traded funds (ETFs)
  
• Unit investment trusts (UITs)
  
• Closed-end funds
  
  

Both traditional open-end mutual funds and ETFs fall within this product category, as do unit investment trusts (UITs), which are the predecessors to ETFs. Closed-end funds also operate under
regulations of the Investment Company Act of 1940.

Structure – Portfolio managers/teams deploy the combined investor assets to buy securities for that mutual fund’s underlying portfolio. Mutual funds typically trade once per day and continuously offer shares for sale directly to investors (even if investors purchase a fund through a financial intermediary such as a broker/dealer’s registered representative or a financial planner) in exchange for their investment dollars. The fund’s advisor agrees to redeem those shares for cash at their then current value, when an investor requests it.

Types – There are many different styles of mutual funds that invest in different securities, sectors of the stock, bonds, real estate and commodities markets and have different investment objectives. Mutual funds can be passively managed (they track to a particular underlying index) or can be actively managed (portfolio managers/teams are allowed to buy and sell securities without following an index).

Earnings – During the year, the mutual fund collects dividends from underlying stocks. However, the portfolio manager does not pass these dividends to the shareholders as they come in. Instead, the mutual fund pays out the dividends monthly, quarterly, semi-annually or annually, depending on a fund’s type. Capital gains that the fund may generate with each sale of individual portfolio securities are usually paid to investors annually. Shareholders can choose whether to reinvest the dividends and capital gains back to the fund or have them paid out.

Taxation – Dividend income can be qualified or non-qualified. Qualified income is taxed at the current 15% maximum federal tax rate. (Due to the tax code expiring, this rate may change after December 31, 2010.) In order to meet the criteria for the qualified income, the dividends must come from a domestic corporation or qualified foreign corporation and certain holding period requirements must be met by the funds and the shareholder. Non-qualified dividend income is taxed at an ordinary income tax rate. The mutual fund company should distinguish between qualified and nonqualified dividend income.

Benefits/Features – There are a wide variety of vehicles for investors to choose from, and investors have easy access to these investments.

Structure – As illustrated in the accompanying graphic, ETFs begin and operate with Authorized Participants (APs), who become part of the creation/redemption lifecycle of the ETF. APs create a basket of securities to mirror the index the ETF is tracking. ETF shares are then created in large blocks to correspond to those underlying securities (creation units). APs can then sell those ETF shares on the open market to investors.

Redemptions work in reverse. APs exchange large blocks of shares of the ETF back to the ETF’s underlying trust in return for obtaining specific securities of equal value. This ongoing creation/redemption process utilizes "in-kind" exchanges, which makes ETFs relatively tax efficient since there are no cash transactions. ETFs do not sell or redeem shares for cash directly with investors.

Let’s take a look at why price disparity may take place. ETFs have a two-level structure: the underlying securities and the actual ETF investment vehicle that trades on a stock exchange. Because of this structure, and because of dynamic pricing of the underlying securities, the per share value of the combined underlying securities (the ETF’s net asset value) may slip out of sync with the ETF’s exchange traded price.

One nuance unique to ETFs is that this price disparity offers APs an arbitrage opportunity. This involves either creating or redeeming ETF shares to profit from the price difference. This perfectly legal arbitrage strategy tends to keep the ETF’s market price closely aligned with the value of the underlying securities.

Types – There are many different styles of ETFs that invest in different securities, sectors, bonds, real estate, commodities and currency markets. Most existing ETFs are passive in that they track to either a well-known market or third-party underlying index or an index proprietarily created by the ETF sponsor. However, active ETFs have already been launched. Leveraged ETFs and inverse ETFs¹ also exist to provide specific enhanced or opposite returns linked to the indices they track.

Earnings – During the year the ETF collects dividends from underlying stocks. However, the portfolio manager does not pass these dividends to the shareholders as they come in. If applicable, ETFs pay out dividends quarterly. Frequency of dividend payouts is a carryover from ETFs’ predecessors – Unit Investment Trusts (UITs), whose dividend payments are paid quarterly. ETF shareholders can choose to reinvest dividend earnings and capital gains, which are paid annually, back to the ETF or have it paid out.

Taxation – Dividend income can be either qualified or nonqualified. Qualified income is taxed at the current 15% maximum federal tax rate. (Due to the tax code expiring, this rate may change after December 31, 2010.) In order to meet criteria for qualified income, the dividends must come from a domestic corporation or qualified foreign corporation and certain holding period requirements must be met by the funds and the shareholder. Non-qualified dividend income is taxed at an ordinary income tax rate. The ETF sponsor should distinguish between qualified and non-qualified dividend income.

Benefits/Features – Holdings are transparent, and ETFs are usually tax efficient.

Structure – Investors typically buy units of a UIT, then hold those units until the UIT terminates, earning their portion of dividends or interest along the way. But UIT sponsors usually allow unitholders to buy or redeem units at any time prior to termination through a continuous creation/redemption process. At termination, investors can request the return of their investment in cash, roll directly into a new UIT series, if available, or request an in-kind redemption. UITs are not managed on a day-to-day basis by a manager or team because desired securities are bought and held throughout the term of the UIT.

Types – UITs hold a predetermined selection of equity or fixed-income securities, a basket of ETFs or closed-end funds or a combination of securities. Maturity dates of two years or longer are common.

Earnings – UITs usually do not allow for dividends or interest to be automatically reinvested. Instead, income derived from the security holdings are held in a separate income account maintained by the sponsor until paid out, on a pro rata basis, to unit holders. This payout is either monthly or quarterly. Some sponsors allow cash income to be used to purchase additional units of the UIT via a distinct purchase transaction. Capital gains, if any, are paid at least annually and often more frequently.

Taxation – Dividend income can be qualified and nonqualified. Qualified income is taxed at the current 15% maximum federal tax rate. (Due to the taxation code expiring, this rate may change after December 31, 2010.) In order to meet the criteria for qualified income, the dividends must come from a domestic corporation or qualified foreign corporation and certain holding period requirements must be met by the funds and the shareholder. Non-qualified dividend income is taxed at an ordinary income tax rate. The sponsor should distinguish between qualified and non-qualified dividend income.

Benefits/Features – Holdings are transparent. Also, UITs may follow a niche or home-grown investment theme.

Structure – Once the closed-end fund has locked the gates of its portfolio, it begins trading on a stock exchange, just like a stock. Investors can purchase or sell shares of a closedend fund only by acquiring shares through a broker/dealer or other financial intermediary via a stock exchange. Because of their inherent two-level structure—underlying securities and shares of closed-end funds—these registered products tend to often trade at premiums or discounts. A closed-end fund is trading at a premium when its exchange-traded share price is higher than the net asset value of its underlying portfolio. This typically occurs with a popular product or one that has shown stellar performance. In this case, an investor must “pay up” to acquire shares of the closed-end fund. In contrast, a closed-end fund that is trading at a discount will exhibit an exchanged traded price that is lower than its underlying portfolio’s net asset value.

Types – Various closed-end funds exist and may invest in domestic or foreign equity or fixed-income securities including municipal bonds. Many single-country closed-end funds are offered.

Earnings – Dividends and/or interest distributions pass through to closed-end fund shareholders (including interval fund shareholders) either monthly, quarterly, semi-annually or annually.

Taxation – Dividend income can be qualified and nonqualified. Qualified income is taxed at the current 15% maximum federal tax rate. (Due to the tax code expiring, this rate may change after December 31, 2010). In order to meet the criteria for qualified income, the dividends must come from a domestic corporation or qualified foreign corporation and certain holding period requirements must be met by the funds and the shareholder. Non-qualified dividend income is taxed at an ordinary income tax rate. The fund company should distinguish between qualified and nonqualified dividend income.

Benefits/Features – The generally closed nature of closed-end funds—and to a lesser degree, interval funds—allows them to invest in less liquid investments because they don’t have to be ready to redeem shares at any time. They sometimes use leverage in an attempt to boost returns.

For more complete information regarding Rydex funds, call 800.820.0888 or click here for a prospectus. Investors should consider the investment objectives, risks, charges and expenses of a fund carefully before investing. The fund's prospectus contains this and other information about the fund. Read the prospectus carefully before you invest or send money.