Other investment classes

Purpose of collective investment schemes

investor's perspective

diversification and lower portfolio risk

access to expertise

access to large/ unusual investments

economies of scale (reducing investment expenses)

possible tax advantages

management of CIS's perspective

follow stated investment objective

to create a return for investors commensurate with the level of risk taken.

Closed-ended schemes

e.g. Investment trust company

once the initial tranche of money has been invested the fund is closed to new money

After launch, the only way of investing in an ITC is to buy shares form a willing seller (analogous to investing in ordinary shares in a trading company, ignoring the possibility of a rights issue.)

Open-ended scheme

e.g. unit trust or open-ended investment company

managers can create or cancel units in the fund as new money is invested or disinvested.

NAV per share

the value of the underlying assets of the company divided by the number of ordinary shares

If gearing is allowed, the underlying assets would be net of the debt liabilities

Investment and risk characteristics of an ITC

stated investment objective written into prospectus/ offer for sale document

closed-ended

public company, governed by company law

often quoted on stock exchange

can raise both debt and equity capital

operated by company directors and investment managers (e.g. merchant banks or specialist ITC managers)

Directors and investment managers receive fees

Investor buys 'shares' in the ITC

Share price is determined by supply and demand

Share price often stands at a discount to the company's NAV per share

Investment and risk characteristics of a unit trust (UT)

Stated investment objective

Open-ended

Trust, governed by trust law

Limited ability to gear

Operated by trustees (e.g. insurance companies or large banks) and management company/ investment managers (e.g. life insurance company)

Trustees ensure UT is managed legally in accordance with the trust deed, hold the assets and oversee the calculation of the bid and offer prices and the administration of the UT

Trustees and UT managers receive fees

Investor buys units in the UT

Unit price is based on NAV per unit

Advantages of collective investment schemes vs direct investment

Access to larger/ more unusual investments

Discount to NAV - assets may be bought cheaply (ITC only)

Diversification

Divisibility

economies of scale in the case of larger collective schemes

expected return higher due to the extra volatility associated with gearing and changes to the discount to NAV (ITC only)

Expertise of investment managers

Index-tracking of a quoted investment index is possible

Marketability (possibly)

Quoted prices making valuation easier

Suitable for small investors

Tax advantages (possibly)

Disadvantages of collective investment schemes vs direct investment

Loss of control

Additional layer of charges: management fees for investment mangers

Need to hold some cash for liquidity which reduces expected expsire/ return (UT only)

Extra volatility caused by gearing/ discount to NAV changing (ITC only)

Tax disadvantages (possilby)