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Investing in Unit Trust
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Frequently Asked Questions
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Unit trusts (also called Mutual Funds) are ideally suited to people who don’t have the time or skill needed to select individual investment products themselves, or who have limited financial capability but want the benefits of professional asset management and diversification. Different Unit Trusts suit different investors’ financial needs and have different levels of risk and return. You should invest in a Unit Trust that suits your needs and particular circumstances.
Variously known as Unit Trusts, Mutual Funds or simply Funds, these investment products give investors the opportunity to diversify even a small investment into many types of assets. A Unit Trust pools or gathers relatively small investments from a large number of investors to make one large fund. This pool of funds is then invested in different financial instruments. The income earned from these investments is shared by the respective unit holders proportionately to the number of units owned. A Unit Trust is usually overseen and managed by a professional Unit Trust Management Company (also called Fund Management or Asset Management Company) . An independent trustee maintains custody over all the assets.
Unit trust have become popular as they provide cost effective access to various investment products such as government securities, debentures and shares. Additionally, they diversify risk and allow for a professional fund manager to manage your portfolio. The benefits of investing in a Unit Trust can be detailed as below:
- The pooling of money increases cost efficiency: As you are invested together with a collective of investors with similar objectives, you get access to individual securities such as shares and debentures at a lower cost than if you purchased these individually. All the investors in a First Capital fund share proportionately in the gains and losses of the fund.
- The pooling of money helps you diversify: You may have heard the expression “Don’t put all your eggs in one basket.” This phrase is used to explain the concept of Diversification. This means if one security loses money, the other securities will make up for those losses, and your overall investment will not lose too much value if you have invested in a diversified manner.
- The pooled money is handled by professionals: We use our expertise in various areas of financial markets to give you a fair return. Because we have long established experience, we are able to analyse varied rates, distinct risk profiles, changes in risk profiles and other such factors that affect investment returns. Our qualified investment managers are responsible for making prudent decisions on our unit trust portfolio. As a normal retail investor it may be difficult for you to match the expertise and insight of the First Capital research team or fund managers.
To help align your expectations with the objectives of the Unit Trust, you need to consider and answer the following questions and discuss them with your advisor:
- What is my investment objective?
- How much risk am I willing to take?
- Am I prepared to lose money in order to gain more profit?
- How long is my investment horizon?
- Will I need to take back my money in a short while urgently?
Unit Trusts issue what is called an Explanatory Memorandum which describes its objectives, makeup or asset allocation , risk factors and other relevant factors. You must read this document carefully and seek professional advice if you do not understand any of the details .
The value of the Unit Trust will fluctuate in accordance with the underlying investments and there is no guarantee of performance of the invested capital.
In general, return is related to the level of risk incurred by any investment.
As an indication of the risk return association: Equity-based Unit Trusts provide high returns but are associated with high risk; Fixed Income based Unit Trusts are comparatively less risky but come with lower potential returns.
- Capital growth: The value (price) of the shares or underlying assets may increase and may be sold for more than the price at which they were bought.
- Income: The underlying assets may earn interest or dividends.
The interest or dividends earned by units may be paid out to investors or may be reinvested in the fund, thereby increasing the number of units owned by the investor and compounding returns. Unit Trusts can, however, lose money if the prices of the underlying assets fall. As such, it is best not to invest in Unit Trusts using money that may be needed at short notice. This is because investors who have no choice but to sell units when the money is needed may realize a loss if the market, and therefore their unit trust investment, is down.
A Unit Trust is set up in the form of a trust, which has sponsor, trustees, unit trust management company (UTMC) and custodian. When investing in a Unit Trust, investors are assured of the active involvement of regulatory bodies and a high level of transparency. An independent entity is appointed as trustee and maintains custody of the Fund’s assets, representing the interests of the investors. Moreover, the trustee monitors transactions carried out by the Fund on a daily basis. The Securities and Exchange Commission of Sri Lanka (SEC) licenses and regulates Unit Trusts, conducts periodic on-site audits, and rigorously examines the qualifications of fund managers.
There are different Unit Trusts, each addressing a specific investment requirement. No single Unit Trust will cater to the requirements of all investors. The fund manager will match a specific fund to an investor’s requirements. The main types of Unit Trusts in Sri Lanka are Income Funds, Money Market Funds, Gilt Edged Funds and Equity Funds. Income Funds invest in income generating investments such as government securities, debentures, commercial papers, structured debt instruments, and even bank and finance company fixed deposits. These funds are suitable for medium to long term investments, for income generation and capital growth. A well-managed Income Fund will generate higher returns over the long term than equivalent bank or finance company deposits. Money Market Funds make similar investments to Income Funds, except that all investments mature within one year. As a result, the return on Money Market Funds is lower but its attraction is its high level of liquidity. They are good substitutes for savings accounts as your investment can be withdrawn at any time. Gilt Edged Funds restrict investments to securities issued by the Government of Sri Lanka. Government Securities are widely considered risk-free instruments and are suitable for investors wishing to eliminate all default risks associated with an institution. They are the safest investments in terms of payment of underlying principal and interest when due. However it must be noted that Government Securities carry ‘interest rate risk’ and the value of instruments rise or decline based on interest rate changes. Equity Funds invest primarily in shares listed on the Colombo Stock Exchange. Investments in listed shares have higher risks than investments in fixed income instruments and they can be expected to yield higher returns. They are long-term investments – ideally an investor should have a 5-10 year investment horizon in mind when investing in an Equity Fund.
The performance of a particular Unit Trust is denoted by its Net Asset Value (NAV). In simple words, Net Asset Value is the market value of the securities or other underlying assets held by the Unit Trust. Since market value of securities/assets changes every day, the NAV also varies on day to day basis. The NAV per unit is the market value of securities/assets held by the Unit Trust divided by the total number of units of that fund on any particular date.
A redemption is when you sell some or all of the units that you own in a Unit Trust portfolio, and the proceeds are paid into your nominated bank account. Some funds may charge you an Exit Fee, upon redemption. Please ask your advisor or revisit the Explanatory Memorandum which details the Unit Trust.
Yes, you are able to open a Unit Trust account in the name of minor or another investor. As the investor, you are required to sign all instruction forms. If the account is opened in the name of a minor, a parent or guardian is required to sign all instructions until the child reaches the age of 18.
