Investment trusts and investment funds are some of the cornerstones in the UK financial and investment sector. Although they are different, they have a number of common similarities. Most distinctly the fact that they enable investors or corporations to ‘pool’ or place their money with that of others, thus benefiting from exposure to a range of assets through a single route.
While they have both been part of the UK financial sector for over a hundred years, investment trusts and the benefits they provide are much less well understood than funds and other investment opportunities. This has subsequently attracted much less attention than its counterparts.
What is the difference between an Investment Trust and Investment Fund?
Investment funds are today an extremely common feature in the UK investment sector.
Investment funds are commonly structured as ‘open-ended’ investment options. This means investors can buy or sell units directly from and or to the fund manager, who can issue or cancel units for sale in line with demand from their investors.
In comparison to investment funds, Investment Trusts are ‘closed-ended funds’ in nature, they only issue a fixed number of non-redeemable shares for investment in the trusts.
Investors are able to buy or sell shares of their own accord by trading amongst themselves on the stock exchange. This process is very similar to buying or selling shares of a public listed company.
There are several distinct differences between investment trusts and funds. However, there are two areas which need to be covered, it is these areas which determine how each option operates.
Management: The way trusts and funds are managed, noticeably separates the two in how they operate.
In an investment fund, the fund and the fund manager are effectively the same and do not operate independently from each other. They are effectively one party. In comparison, investment trusts define their operations through the accountability of their fund managers. To ensure the portfolio managers are performing well enough and in the objectives of the trust and interests of shareholders, investment trusts operate with an independent board of directors who are responsible for oversight of activities.
Pricing: The second separation is the pricing of assets.
As it has been established, investment trusts and investment funds ‘pool’ their money in different ways. This process of how they ‘pool’ their capital has a subsequent impact on how they define their pricing methods.
The pricing of units in an investment fund is directly linked to the value of listed underlying assets in the fund. Investments trusts use a similar process, but expand on this and are dependent on a secondary factor: the performance of underlying listed assets and the demand for shares from potential investors.
As investment trusts operate in line with the stock exchange, the price of shares in the fund is determined by the demand at that current period. At a single time, shares could be trading at a distinctly discounted value, as a result of low investor demand, and vice versa.
What is the best investment option for you?
This is a question everyone looks to answer. In short, it depends on what form of returns you are looking for and the time scale for those returns.
Although they are not as popular as investment funds, investment trusts are often seen to provide greater performance than funds, thanks to their closed-ended nature. Through the ability to hold onto assets, gear assets and provide lower transactional costs, investments trusts can be seen to outperform funds over the longer term; as portfolio managers can develop well-performing long term investment plans. However, over the short-term, investment funds have the upper hand, providing more immediate and greater returns.
In determining which investment opportunity is right for you, it is important to understand your goals for return in your investment. The distinct structural and management differences between the two options, provide potential investors with a plethora of possible outcomes. Through understanding how each option works can provide a clearer image in your investment future.