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Investment TrustThe complete guide to Investment Trusts
Investment Trusts, one of the most efficient collective investment vehicles, are most common in UK. They are well-established within UKs legal framework. The Foreign & Colonial investment trust is the world's first investment trust, which started in 1868. Its objective was to make available to an individual investor with modest means the same advantages which are available to big capitalists in diminishing the risk by spreading the investment over a number of stocks. F&C is not only the world' s oldest, but also the largest global investment trust. Its portfolio consists of shares of more than 500 companies in 30 different countries.
As you may be aware, there are many types of collective investment vehicles available to an investor today. There are unit trusts and then there are open ended investment companies (OEICs). So then, what exactly is an investment trust and how is it different from these other collective investment options
To understand all these points, let us first of all define an investment trust as a company which invests in the shares of other companies. So, an investment trust is a company which first of all pools investors money, then employs a professional fund manager and then invests in the shares of a number of companies, this number usually higher than the number of companies an individual can invest in, himself or herself. Thus, it enables people with relatively small amounts to invest, to gain access to a diversified as well as professionally run portfolio of shares through a trust, and also spreads an individual investor s risk of stock market investment. Today, there are over 300 such trusts in UK managing billions of pounds worth of assets on behalf of innumerable investors.
Thus, few very apparent benefits of investing in an investment trust are:
? By purchasing shares in a trust, you are pooling your money with that of other investors. Thus naturally results in economies of scale. By buying shares in just one investment trust, you will get a diversified portfolio because that trust will own shares in various different companies. This is called spreading your risk i.e. you are no longer dependent on the performance and success of just two or three companies.
? Since each trust is required to use the services of a professional fund manager, this means your portfolio is professionally managed.
? investment trust gives you the option of how you want to invest. You can invest a lump sum amount or you may decide to invest monthly. If you want to invest monthly, it is not necessary that you invest big amounts. Most trusts will have saving schemes where the starting amount may be as little as ₤30 per month.
Now comes the question that how these investment trusts are different from other collective investment vehicles, such as unit trusts or OEICs So let us discuss the unique features of investment trusts:
? Company with independent board of directors: investment trusts are companies and therefore, just like any other company; they are listed on the stock market and have an independent board of directors. The primary function of all these directors is to look after shareholders interest. These directors are answerable to you the shareholder of the company. As a shareholder, you can ask questions, challenge the decisions of the directors and can even vote against them during AGM.
? Just like any other company, an investment trust will issue shares to raise money for investing. This usually is a one-time event when the trust is formed. This is what we call a close ended scheme the number of share a trust will be issuing, and therefore the amount of money it wants to raise, is known to everyone at the start of the trust itself. This helps fund managers a great deal in planning for the future.
? For additional capital, these investments will have to borrow. This is what is called ?financial gearing. This gearing helps a trust in a number of ways, such as, a trust by borrowing from the market, can buy a particularly attractive stock which is available only for a short time, without having to sell anything from its existing portfolio. The more a trust will "gear up" i.e. the more it will borrow, higher the risk it will be taking but this also means higher potential returns. A trust must make high enough return on its investments so as to be able to pay interest on loan, repay the principle, and then make profits for its investors.
? Certain investment trust also gives you the option of choosing from among different classes of shares according to your needs and expectations from your investment. These trusts are called "splits". We will discuss them in greater detail in a short while.
? You can buy investment trust's shares at a price lower than the value of all its assets, called the net asset value per share (NAV). That is, investment trust shares usually tend to trade at a discount.
Split Capital investment trusts:
Also called "splits", they are a bit more complicated than traditional investment trusts.
They are also nothing more than companies with an investment portfolio, just like any other trust, but where they differ is that they offer two or more different types of shares. Each type of share has different rights over income form the trust's portfolio, and also has a predetermined order of priority in entitlement (during the trust's lifetime) and repayment (at the time of winding up of the trust). Thus, splits cater to range of investment needs. Let us quickly discuss different types of shares splits issue:
? Zeros: their actual name being Zero Dividend Preference Shares, they have a limited life and usually have the first call on a trust's asset in the event of wind-up, after the trust has paid off external borrowings. They will give you a pre-determined capital return, called the redemption value, on their wind-up date.
? Income shares: they will give you regular returns in the form of dividend. On wind-up, they have a pre-determined capital value, although if the trust performs poorly, you may not get even this amount.
? Ordinary income shares: they give you regular dividend payments, as well as prospect of capital growth. This means they have no pre-determined value at wind-up, so you are entitled to surplus assets of the company, after paying off previous categories, at the time of wind-up.
? Capital shares: they offer above average capital growth, but at high risk. There is no income, but there is also no cap on the returns you may get at the time of wind up. Point to be noted is, they have the very last call on a trust's assets at the time of wind up.
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