The Investment Company Act of 1940 regulates companies that are primarily in the business of investing, reinvesting, or trading securities (investment companies).
Three types of investment companies under the Act:
| Type | Description | Examples | |---|---|---| | Management company (open-end) | Issues redeemable shares continuously | Mutual funds | | Management company (closed-end) | Issues fixed number of shares, trades on exchange | CEFs | | Unit investment trust (UIT) | Fixed portfolio, no ongoing management | UITs |
Key requirements: - Diversification: Diversified funds — ≥75% of assets must be invested such that no single issuer exceeds 5% of assets, and the fund holds ≤10% of any issuer's voting securities. - Leverage limits: Open-end funds cannot issue senior securities (i.e., borrow) beyond 300% asset coverage; closed-end funds 300% for debt, 200% for preferred. - Affiliated transaction restrictions: Prohibits self-dealing between fund and affiliates. - Shareholder rights: Shareholders must approve major changes (investment objective, fee increases, diversification status). - 12b-1 fees: Distribution fees charged within the fund; must not exceed 0.75%/year (1.00% total with service fee).
> Exam tip: On the SIE and Series 7, focus on the diversification test (75/5/10 rule) and the three types of investment companies. Know that open-end funds redeem at NAV; closed-end funds trade at a market price that can differ from NAV.