Unit trust is a term you may see on the fact sheets of funds or collective investment vehicles.
But what does unit trust mean? And what are the characteristics of a unit trust?
What is the definition of a unit trust?
Unit trusts are a popular type of collective investment scheme, and are commonly referred to as ‘funds’.
The name refers to the legal structure that the asset manager uses to create and manage the investments.
However, not all funds are unit trusts. Other distinct legal forms include:
- OEICs (Read more: Definition of OEICs)
- Investment Trusts (Read more: Definition of Investment Trusts)
- Hedge Funds
What are the characteristics of a unit trust?
At this stage, I should highlight that that Unit trusts and OEICs have far more in common than they have contrasting differences.
I suspect that for the majority of investors – any differences are barely perceivable. I would wager that many seasoned amateur investors do not even know whether the funds they invest in are unit trusts or OEICs.
In many ways, the differences have little impact on investor returns.
I recommend that you focus your scrutiny to other features of a fund when researching investments:
- Does the fund have a passive investing approach or an active approach?
- Does the fund allow you to minimise investing costs?
- Does the fund allow you to diversify across many individual assets?
- Will adding this fund help you build a better investment portfolio?
The legal form of a unit trust
A unit trust is run by two key entities:
- The trustee
- The unit trust manager
The unit trust manager, (usually a traditional asset manager) is responsible for the day-to-day running of the unit trust, including administration and marketing.
The trustee, (usually a bank or insurance company) legally holds the assets of the trust on behalf of the unitholders. Their primary objective is to protect investors. This protection is ensured by a legally binding trust deed signed by the trustee and the manager.
Both parties must be incorporated entities, authorised by the UK financial regulator, with a minimum level of assets.
Investors are assigned ‘units’ in return for their deposit into the trust. These units give the investors rights over their share of the assets in the trust.
Like OEICs, unit trusts are ‘open-ended’. This means that they are able to expand and contract as investment flows move in and out of the unit trust.
This happens because units can be created or issued when investors invest or cancelled when investors dispose of their holdings by selling them back to the trust.
As a result, there will always be a direct relationship between the unit price and the value of the underlying investments, as the daily valuation is calculated by the trust itself, and used to conduct the ‘in’ and ‘out’ transactions with investors.
Why are unit trusts popular?
Unit trusts are collective investment schemes.
Like other schemes, they allow many investors to pool small amounts of capital, and invest this pool of money across a wide range of individual assets.
Unit trusts are also easy to access. This is normally done via a fund supermarket or a stocks & shares ISA. Ordinary stockbroking accounts can also hold unit trusts, however, this is not as tax efficient as the ISA option.