What Are Unit Trust Schemes?
Unit trust schemes are a form of collective investment constituted under a trust deed, pooling money from numerous investors to invest in a diversified portfolio of securities such as equity, bonds, and other financial instruments. They fall under the broader category of Investment Vehicles. In a unit trust scheme, investors purchase "units," each representing a proportionate share of the fund's underlying assets. These schemes are typically "open-ended," meaning the fund can create or redeem units based on investor demand, allowing the fund's size to expand or contract. The management of a unit trust scheme involves a trustee and an investment manager, each with distinct roles to safeguard the interests of the unitholders, who are the beneficiaries of the trust.
History and Origin
The concept of pooled investments has roots in the 19th century, but unit trust schemes as they are largely known today originated in the United Kingdom. The first modern unit trust was launched in the UK in 1931 by M&G. This innovation was driven by the aim of making financial markets more accessible to ordinary investors, allowing them to collectively participate in a diversified portfolio of assets and achieve diversification that would be difficult for individual investors to achieve on their own. The structure was designed to be open-ended, offering flexibility in adjusting the fund's size based on investor interest and changing market conditions. By 1939, approximately 100 unit trusts were operating in the UK, managing significant funds.9,
Key Takeaways
- Unit trust schemes pool money from multiple investors to invest in a diversified portfolio.
- They are open-ended, meaning units are created or redeemed based on investor demand.
- A trustee and an investment manager govern the scheme, with the trustee protecting unitholder interests.
- Returns are generated through income distributions (like dividends) and capital gains from the underlying investments.
- The value of units is tied to the fund's Net Asset Value (NAV).
Formula and Calculation
The primary metric for valuing a unit in a unit trust scheme is the Net Asset Value (NAV) per unit. The NAV represents the value of each unit if the fund were to liquidate all its assets and distribute the proceeds to unitholders.
The formula for Net Asset Value (NAV) per unit is:
Where:
- Total Value of Fund's Assets: The market value of all securities, cash, and other holdings in the fund's portfolio.
- Total Fund Liabilities: Any outstanding debts, expenses, or fees owed by the fund.
- Total Number of Units Outstanding: The current number of units held by investors in the unit trust scheme.
This calculation is performed daily to determine the price at which investors can buy or sell units.8
Interpreting the Unit Trust Scheme
Interpreting a unit trust scheme involves understanding its Net Asset Value (NAV), its stated investment objectives, and the composition of its underlying portfolio. A rising NAV per unit indicates that the value of the fund's investments is increasing, while a falling NAV suggests a decrease in value. Investors should assess if the unit trust's investment strategy aligns with their personal financial goals and risk tolerance. For instance, a unit trust focused on equity will typically carry higher risk and potential for growth than one primarily invested in bonds. Regular review of the fund's performance against its benchmark and its expense ratios is crucial for ongoing evaluation.
Hypothetical Example
Consider "DiversiGrowth Unit Trust," a hypothetical unit trust scheme. Suppose the fund starts with 10,000 units outstanding.
The fund's assets consist of:
- Shares in Company A: $500,000
- Shares in Company B: $300,000
- Bonds from GovCorp: $200,000
Total Assets = $1,000,000.
The fund has accrued management fees and administrative expenses totaling $10,000.
Initial NAV per Unit =
If an investor initially buys 100 units at $99.00 per unit, their initial investment is $9,900.
A month later, due to positive market performance, the fund's assets increase in value to $1,100,000, and new investors purchase 1,000 additional units. Liabilities remain at $10,000.
New Total Units Outstanding = 10,000 + 1,000 = 11,000.
New NAV per Unit =
The investor's 100 units are now worth approximately $99.09 each, reflecting a modest capital gains increase in the unit value. This example illustrates how the Net Asset Value (NAV) per unit fluctuates with the value of the portfolio and the number of units outstanding.
Practical Applications
Unit trust schemes are widely used by individual investors and institutions seeking professionally managed and diversified exposure to financial markets. They are a popular choice for long-term savings, retirement planning, and wealth accumulation, particularly in regions like the UK, Singapore, and Hong Kong. Investors can choose from a range of unit trusts based on their investment objectives, such as those focusing on equity for growth, bonds for income, or balanced portfolios for a mix of both. The accessibility of unit trusts allows smaller investors to gain exposure to a broad range of financial instruments and sectors that might otherwise be out of reach. Regulatory bodies, such as the Financial Conduct Authority (FCA) in the UK, define and oversee such collective investment schemes to ensure investor protection and market integrity.7
Limitations and Criticisms
Despite their advantages, unit trust schemes have limitations. A common criticism revolves around their fee structures, which can sometimes be higher compared to other investment vehicles like exchange-traded funds (ETFs) or passively managed funds. These fees often include annual management charges, administration fees, and sometimes sales charges or redemption fees, which can erode investor returns over time.6 Additionally, while unit trusts offer diversification, the performance of actively managed unit trusts often struggles to consistently outperform relevant market benchmarks after accounting for these costs. Some critics argue that the "trailer fees"—portions of the management fees paid by the fund manager to financial advisors or distributors for selling the funds—can create a conflict of interest, incentivizing distributors to recommend funds with higher fees rather than those most suitable for the investor's profile. Inv5estors should carefully scrutinize the total expense ratio and all associated charges before investing in a unit trust scheme.
Unit Trust Schemes vs. Unit Investment Trusts (UITs)
While the term "unit trust scheme" is widely used internationally, particularly in the UK and parts of Asia, the United States has a related but distinct structure known as a Unit Investment Trust (UIT). The primary difference lies in their management and structure.
- Unit Trust Schemes (International context): These are generally open-ended funds whe4re the investment manager actively buys and sells the underlying securities within the fund's portfolio to achieve its investment objectives. The number of units can fluctuate daily as investors buy and sell.
- Unit Investment Trusts (UITs) (US context): UITs are typically fixed portfolios of securities. Once the portfolio is assembled, it remains largely unchanged for the life of the trust, which has a predefined termination date. UITs do not have an active management component; the portfolio manager does not continuously trade the assets. Investors buy a fixed number of units during an initial offering, and while units can be redeemed or sold on a secondary market, new units are generally not created continuously after the initial offering.,
T3h2is distinction means that unit trust schemes often involve ongoing management decisions and fees associated with active trading, whereas UITs offer a more passive, buy-and-hold strategy with a fixed lifespan.
FAQs
What is the role of the trustee in a unit trust scheme?
The trustee is an independent party responsible for safeguarding the fund's assets and ensuring that the investment manager operates the unit trust scheme according to its trust deed and regulatory rules. They act in the best interests of the unitholders.
How do investors make money from unit trust schemes?
Investors can profit from unit trust schemes in two main ways: through income distributions (such as dividends from stocks or interest from bonds held by the fund) and through capital gains when the value of their units increases.
Are unit trust schemes regulated?
Yes, unit trust schemes are typically regulated by financial authorities in the jurisdictions where they operate. For example, in the UK, they fall under the oversight of the Financial Conduct Authority (FCA) as collective investment schemes. Thi1s regulation aims to protect investors and ensure transparency.
Can I withdraw my money from a unit trust scheme at any time?
Most unit trust schemes are open-ended funds, meaning you can typically redeem your units back to the fund on any business day at the prevailing Net Asset Value (NAV) per unit. However, some funds may have specific notice periods or redemption fees.
What is the difference between an actively managed and passively managed unit trust?
An actively managed unit trust scheme involves an investment manager making decisions on which underlying assets to buy and sell with the aim of outperforming a benchmark index. A passively managed unit trust, also known as an index fund, aims to replicate the performance of a specific market index by holding its constituents in similar proportions, typically resulting in lower fees.