Contents

Investment comparison

Investment Companies vs Unit Trusts.

Overview

Investment companies have numerous investment advantages over unit trusts. Unlike unit trusts investment companies are controlled by shareholders. Thus, investment companies bring significant cost savings to investors and have become the preferred investment choice for UK financial professionals. Although unit trusts are generally better known than investment companies, the latter do in fact offer many unique benefits. Hence their reputation as being “one of the City’s best kept secrets.”.

Stock Exchange Listing

As companies, investment companies have the advantage of being listed on the stock exchange which means they have an independent board of directors who are directly answerable to shareholders for the company’s actions and performance.

Closed-ended versus open-ended

Investment companies are what’s known as closed-end funds. This means that the amount of money which the investment company raises to invest is fixed at the start by issuing a set number of shares to investing shareholders. Having a fixed pool of assets enables the fund manager to plan-ahead and make the best investment decisions possible. A unit trust, on the other hand, is an open-ended investment vehicle. This means that it expands or contracts in size all the time as people invest in or leave the fund. The fund manager is unable to plan-ahead with complete certainty because the available pool of assets is always changing. Happily, this can’t happen with investment companies because shareholders don’t sell their shares back to the investment company, they sell them on to another buyer on the stock exchange. This means that the fund manager’s pool of funds is unaffected by shareholders who want to sell their shares.

Gearing

Another feature of investment companies is their ability to borrow money to buy more assets when interest rates look low or when a particularly attractive stock presents a good buying opportunity. They can borrow at much lower interest rates than individuals and other types of companies because they are dealing in much larger sums and lenders view them as lower risk. Of course, the investment company does not have to be “geared up”. This is up to the policy of the board of directors and the strategy of the fund managers.

Asset weightings

Investment companies are not restricted like unit trusts by prescribing minimum and maximum exposures to equity. This means that as market conditions change investment companies have far greater flexibility in their response. An investment company can enjoy higher equity exposure in a strong equity market, or when the necessity arises can be more defensively positioned than a unit trust.

Discounts and premiums

Investment companies can often be bought at below the price you would have to pay if, theoretically you were constructing the same portfolio of assets within the company for yourself, offering the opportunity to acquire those assets at a discount. This can boost your investment returns as it provides scope for the discount to narrow if demand increases. Sometimes demand can be so high that the total value of all the investment company’s shares will be worth more than the value of the assets which it owns. In that case, the investment company’s shares are said to trade at a premium to net asset value.

Costs

Investment companies are usually cost efficient. If you buy them direct on the stock market you don’t have to pay any initial charge, other than the stockbroker’s commission. The annual management costs are often low too. If you want to invest through an asset manager, you may have to pay more, but this will still work out as a cost-effective method of investing. This means that more of your money is working for you from day one, a head start that more expensive investments will find difficult to make up. If two funds enjoy similar performance, the one with the higher charge handicap will always lag behind. Although cost is not the be-all and end-all when it comes to choosing which investment vehicle to take out, it is nevertheless an important consideration and should not be overlooked.

Transparency

Investment companies are one of the most transparent investment vehicles around. In fact, one of the key roles of an investment company’s independent board of directors is to ensure that the fund’s internal charges aren’t excessive and that the interests of shareholders are looked after. Total annual charges made within an investment company vary but are usually somewhere between 0.2% and 1%. By comparison most unit trusts levy an initial charge of 2-3% and charge an annual fee ranging between 1.25% and 3.0%.