Ever since Sage Life launched its first Unit Trust, the SAGE Equity Fund ( South African Growth Equities) in South Africa on 14 June 1965, the industry has swelled out to a bewildering array of funds, about 1200 or so; even more than the amount of listed securities on the Johannesburg Stock Exchange .
What is a unit trust?
A unit trust is a collective investment vehicle or scheme whereby investors pool their resources for which in return fund managers strive to equal or better certain benchmarks or achieve certain returns in exchange for management fees. Overseas they are called mutual funds and can be open-ended ( called OEINC's) or closed-ended funds with an initial entry charge. Some funds overseas also levy exit charges in order to deter investors to exit prematurely which could force fund managers to sell holdings and not comply with their fund mandates. SICAVS ( Société d'investissement à capital variable ) are domiciled, mostly in Luxembourg – funds registered as companies with variable capital. European funds are subject to MIFID- a directive which has better disclosure to investors as its objective. Funds can be active or passive and invest in a mixture of asset classes such as equities, bonds, cash, property, offshore cash, offshore bonds, offshore property in accordance with the fund's mandate. Fund mandates must be registered and approved.By their very nature, they are liquid and if an investor requires liquidity or all their funds back, the fund will repurchase these units and sell underlying securities in order to achieve the required liquidity. These funds are governed by the CISCA ( Collective Investments Schemes) Act of 2002 and the unit prices or NAV's are published daily in various media forms. Recommended holding period: 5 years plus.
Exchange Traded funds are a relatively new innovation to the South African investments scene- about 10 years or so, but have been around in the USA and Canada, where they first originated from-the first modern exchange traded fund was launched by the Toronto Stock Exchange in 1990.
What is an exchange traded fund?
Unlike a unit trust, an exchange traded fund, is a listed entity on the Johannesburg Stock Exchange or any other stock exchange for that matter and price information is also priced daily in certain media forms. These funds are also governed by the CISCA Act of 2002, which has protection and governance measures built into it to protect investors.. What differentiates them from unit tusts, is that the undelying securities which the funds invest in, are owned by the investor and liquidity when an investor requires funds works differently in that the promoter of the fund will sell these securities on behalf of the investor on the JSE or stock exchange. Funds are built to either replicate an index identically or certain parts of it or combinations of indices or weightings or certain components and can be re-weighted. The industry has about 10 % of the total amount of unit trust funds. Some product providers, when certain investment amounts are reached, offer investors an option to switch their units to an indivual share held in an index, should an investor require this. A draw-back from exchange traded funds is that one cannot switch from fund to fund. You'd have to disinvest and then invest into a new fund or set up a portfolio of multiple funds so that one would not need to switch to another.
Which is the cheapest?
There is no doubt that ETF's are much cheaper and TER's ( total expense ratios) vary from almost half that of some unit trust funds and in some cases even only a third of the TER costs of unit trust funds.
Which performs the best ?
Over the last 3 years, the Johannesburg Stock Exchange, the general index, the All Share Index or ALSI, has just gone sideways with no eventful or meaningful returns. This was brought about by fund withdrawals from foreigners dis-investing their holdings in equities and bonds. The South African Stock Exchange is very reliant on foreign portfolio flows.
If one takes cheaper ETF fund performances over one year into account, some funds have certainly outperformed unit trust funds and at much cheaper costs.
However, when one considers longer periods, three and five year window periods, it seems to have swung in the favour of unit trust funds with significant outperformance which makes up for higher fees.
Impact of returns and costs on performance:
Let's assume an investor invested R 100 000 into funds, 10 years ago.
Some outcomes would have been as follows:
R 100 000 % 6% would have returned: R 210 418, @ 8%: R 256 707, @ 10%: R 313 079, @ 12% : R 381 698, @ 14% : R 465 209- caveat: past performance is no guarantee of any future returns . Many years ago, 12% was the maximum illustrative %, and that was on policies such as retirement annuities and endowment policies.
This projection excludes annual asset management fees and platform management fees.
Consider the following.In the Category, South African – Multi Asset – High Equity funds, a very prominent, and maybe the largest unit trust in South Africa, the fund has a T.E.R of 1.66 % per anum & a 0.41 % performance fee. One could say 2.07 % per year. The fund only returned up to 20 July 2018, 6.40 % for the year. Subtract 2.07 % in costs ( which most investor's aren't aware of). Your net performance is 4.33 % for the year, not even equalling inflation (CPI) at 6 %, but over 3 years 26.69 compound would equate to 8.8 % per year and over 5 years, 59.34 compound, equals 11.86 % per year. A certain ETF, in the same space, has a T.E.R of 0.55% and performed over 1 year @ 8.18 % , as at 19 July 2018, over 3 years: 18.09 cumulative, which would equate to 6.03% per year.
In the Category, South African- Equity General Funds, a very prominent and large unit trust fund, the fund has a T.E.R of 2.06 % & a 0.84% performance fee. One could say 2.9% per year. The fund returned up to 20 July 2018, 6.52% for the year. Subtract 2.9% in costs, your net performance is 3.62% for the year, not even equalling inflation, yet again, but over 3 years, 23.48% compound equals to 7.82% per year, from which costs still need to be deducted. Over 5 years, 67.24 compound gives a rosy 13.48% per year, before costs. A certain ETF, in the same space, has a T.E.R of 0.36% and performed over 1 year @ 16.13 % , as at 19 July 2018, over 3 years: 20.86 cumulative, which would equate to 6.95% per year and over 5 years 41.75 % compound, which equates to 8.35 % per year. This trend seems to establish itself over other funds, showing that cheaper, isn't necessarily better over time.
How do unit trust investments make you money?
The main factor in providing growth is the increase in the unit price ( as the underlying securities: whether they be equities, bonds or listed property apreciate in value) & dividends received by the fund and re-invested into buying further units. Dividends could be received 6 monthly or annually. Dividends account for around as much as 33 % of the total growth over time.
So which is the best?
The jury is still out in this regard, with some proponents favouring passive funds of which most ETF's would fall in this category. Unit trusts have both passive and active funds in terms of their trading and fund positioning in relation to fluctuating markets or directional circumstances or simply if a fund managers chooses to cut exposure to a certain security or maybe increase holdings of a certain security.
It would seem that unit trusts have performed better over 3 and 5 year windows , even though their charges are higher, justifying costs.
On the other hand, ETF's performed better over 1 year periods at a much lower cost.
It would also depend on your time horizon, but all things being equal, past performance is no guarantee of any future performance. It is still recommended that 5 years or more will be the ideal period to hold either unit trusts or ETF's.
It is recommended that a portflio of unit trusts or ETF's be built for a client in line with the client's risk tollerance and investment objectives in stead of only investing in 1 fund, although this could do with smaller amounts.
This article should not be construed as advice, it is for information purposes only.
It is important to consult your own financial adviser as your circumstances and risk tolerance will not be identical to that of other investors.
