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Is it a mutual fund, a trust fund or a unit trust? What are unit trusts and what are exchange-traded funds (ETFs)?
It’s happened too many times to count that someone has told me that they have a trust fund for their child and I gently reply: “You mean a unit trust.”
This example shows just how far we still have to go to simplify personal finance. Although a lot has been written on unit trusts and ETFs, the majority of people don’t seem to understand them or how they work.
I want to explain them as simply as possible so that, firstly, anyone who has heard the terms but is reticent to ask what they mean will understand them and, secondly, so that you will know how to access and invest in them.
Unit trusts are also known as collective investment schemes. They allow a large number of people to pool their money together and invest in equity, property, bonds or cash, and they are managed by professional asset managers.
Unit trusts allow anyone and everyone to access the market and build real wealth by buying units of a share instead of an entire share. Imagine if you were to buy a Naspers share, for example, which costs about R2 950 per share; you would need a lot of money to buy a couple of shares in that company.
With unit trusts, you can access many quality companies at a fraction of the price and, because professionals manage the investments, you don’t have to deal with the anxiety and stress of having to choose which company to invest in.
Since most unit trusts are actively managed (there are a few tracker unit trust funds), they are more expensive than ETFs, hence a growing popularity in ETFs.
Having an actively managed fund means that a fund manager and their team make decisions on which companies to buy, hold or sell shares in. The selling point for fund managers is that they try to outperform a predetermined benchmark.
Tracker or passive is when the funds simply tracks the average return of a market or index.
Exchange-traded funds (ETFs) are listed investment products that track an index. ETFs are shares listed on the JSE and trade like any normal share, but, instead of giving access to the performance of just one company, ETFs provide exposure to multiple companies by investing in the index.
For example, the most popular index in South Africa is the JSE Top 40, which tracks the top 40 companies listed on the JSE, but there is no limit to what an ETF can track – from commodities to bonds or shares.
Since ETFs are passively managed, the cost of investing in them tends to be significantly lower than when investing in unit trusts.
Unlike actively managed funds, passively managed funds require little intervention from the fund manager as they simply track an index.
Examples of companies that offer exchange-traded funds:
. Satrix (satrix.co.za);
. etfSA (etfsa.co.za);
. CoreShares (coreshares.co.za); and
. EasyEquities (easyequities.co.za).
Although unit trusts and ETFs are different, there are a lot of similarities:
. They are highly regulated and governed by legislation;
. Unit trusts and ETFs are pooled investments, meaning that money from thousands of investors is combined by the respective asset manager and invested in the market;
. As an investor, you can invest either a lump sum amount or a recurring monthly amount. Most managers accept a recurring amount from as little as R250/R500 a month;
. With both instruments, you still need to know your investment goal, time frame and risk tolerance; and
. Unit trusts and ETFs are available in all asset classes – equity, property, bonds and cash – allowing you to diversify your portfolio.
The biggest differentiating factors between unit trusts and ETFs:
1. Unit trusts are actively managed, whereas ETFs are passively managed.
2. Since ETFs are traded on the stock exchange, you can buy or sell an ETF at quoted prices throughout the trading day, unlike with unit trusts, where the price is the net asset value and it is only calculated at the end of the trading day.
3. As each ETF fund can only track one index, you are buying into only one asset class per ETF unless you blend them yourself or buy a basket of ETFs that are blended. A unit trust fund manager can invest in a range of assets within one fund, such as equities, cash, bonds, property and offshore.
Both of these investments offer a great way to access the market and start investing, and having a combination of both can be advantageous.
ETFs are good due to their low cost structure and, with unit trusts, you know that there is a skilled asset manager at work who can give you returns that outperform the market or give you wider diversification.
