The legal and tax structure of a managed investment scheme is typically that of a unit trust. The responsible entity of the unit trust is the legal owner of the assets that form the property of the trust, and the assets of the trust are beneficially owned by the investors in their capacity as unit holders. This structure ensures that the scheme assets owned by investors are quarantined from the fund manager operating the investment scheme (the legal term for what a managed fund is).
A managed investment scheme, once registered and established, may initially be seeded with money from institutional and wholesale investors or even the fund manager itself. Alternatively, it may simply raise money directly from the public, that is, retail investors.
The fund's rule book, known as its constitution, will dictate how much money the fund proposes to raise from investors and how many units in the fund are to be issued to investors. Each investor's ownership interest is reflected by the number of units in the unit trust (the managed fund) they hold.
The size of the capital raising and the number of units to be issued will then determine the unit price, or vice versa. For example, a fund manager may wish to launch an Australian Small Company Share Fund capped at $500 million. The terms of the fund constitution may stipulate that investors can subscribe to units at $1 per unit, in multiples of 1000 units. As a result, 500 million units will be up for issue. The unit price is simply the net asset value of the scheme assets, divided by the number of units issued to unit holders.
Alternatively, a managed fund may start out with a very small amount of money, perhaps $5 million, and increase in size over time by issuing further units to new investors. It may not have a cap on the amount of money it can raise from investors. Subsequent units will be issued based on a unit price that reflects the market value of those units at that time. Investors subscribe to units directly with the fund manager, i.e., they apply to buy them.
The greater the amount of money an investor deposits into the managed fund, the more units they are issued. Each unit holder has fixed rights in relation to the property or assets of the trust, such as rights to capital and income and voting rights as enshrined in the managed fund's constitution, as well as ordinary common law rights.
This system of unitisation enables a very large collection of assets to be divided among many investors in the most fair and equitable manner. It also enhances the marketability and liquidity of managed funds by facilitating efficient and timely exchange of the units, as incoming investors can apply for units, and exiting investors can simply redeem their units and hand them back to the managed fund in exchange for cash. In this way, it is very similar to the concept of a listed company issuing shares to shareholders.
The value of the unit price is usually recalculated at the close of trading every day, and performance of the fund can be tracked daily.
Some managed funds that invest in property or real estate, which are less liquid assets, may be valued less often, for example, every month or every three months. When you sell your units by redeeming them with the fund manager, the difference between the sell unit price and the original buy unit price represents a capital gain or loss for tax purposes.
When a managed fund pays investors an income distribution (perhaps comprising dividends, interest or realised capital gains), the unit price will fall by the amount of the distribution per unit. This occurs because the net assets of the fund have been reduced by the size of the cash payment to investors. The unit price will fall once the units have gone ex-distribution, meaning that if you buy units after the relevant date you will not be entitled to receive the distribution until the next distribution period.
Some managed funds, such as unlisted property funds (which may be known as syndicates), have a different method for calculating distribution entitlements. Rather than being entitled to receive a distribution based on whether you held the units at a particular date, they will ascertain how many days each unit holder has held their units since the last ex-distribution date, and distribute income accordingly.
If the income distributions are made every six months, but you acquired your units one month ago, you will only be paid one-sixth of a full distribution. With this method, the unit price does not fall on the ex-distribution date by the amount of the distribution payable.
This ensures an equitable distribution of income for all unit holders, but it is used only for a minority of managed funds. This means that, in reality, managed funds have a three-way unit pricing system, because in addition to the fund's market unit price reflecting its net assets, the fund will also quote a buy unit price and a sell unit price. T
ypically, the sell unit price is about 0.10% lower than the market unit price, and the buy unit price is 0.10% higher than the market unit price - it is a buy/sell spread. This is designed to ensure transaction costs and brokerage incurred by the trust in purchasing or selling the underlying assets of the fund are equitably split between incoming and outgoing unit holders.
For example, a fund may incur brokerage and settlement costs of $500,000 in acquiring $500 million worth of shares for the fund on the ASX. Who should pay this brokerage? New unit holders buying into the fund or outgoing unit holders selling their units? The easiest and fairest method is to split the cost equally between unit holders who wish to buy into the fund, and those who wish to exit the fund.
A managed fund might not tell you its annual investment return; rather, it will tell you its unit price. To convert this to an annual investment return, you simply subtract the unit price one year ago from the unit price today and divide this by last year's unit price. If there have been any distributions in the year these will have to be added onto the current unit price. To convert this to a percentage, multiply by 100.
For example, if your units today are valued at $1.20 and there was a distribution of $0.05 during the year compared to $1.10 one year ago, the difference is $1.25 - $1.10 which is $0.15. Convert this to a percentage by following this formula: ($0.15 ÷ $1.10) x 100 = 13.6%.
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