Roanoke Times
Copyright (c) 1995, Landmark Communications, Inc.
DATE: MONDAY, May 29, 1995 TAG: 9505300012
SECTION: MONEY PAGE: 4 EDITION: METRO
SOURCE: MAG POFF STAFF WRITER
DATELINE: LENGTH: Long
But mutual funds have a lesser-known cousin that offers very similar characteristics. These are called unit investment trusts, and they may - or may not - be right for you.
Mutual funds, closed-end funds and unit investment trusts are all called investment companies. These companies invest in a portfolio of securities on behalf of investors who share a common investment objective.
The primary difference, according to the Investment Company Institute, a Washington-based trade group, is that unit investment trusts have fixed portfolios. They invest in a basket of securities and hold these securities for the lifetime of the trust, which may run for many years.
In contrast, the portfolios of mutual funds and closed-end funds change as fund managers buy and sell securities.
The trust sponsor uses its own capital to buy a wide range of bonds or stocks that are selected by professional securities analysts to help the investors achieve their investment objectives.
The sponsor deposits those securities in the trust. A set number of units in the trust are issued in definite denominations and offered to the public. Each unit represents an equal ownership share of the trust's portfolio.
The trust earns money on the securities and then distributes the earnings to its investors. The investors also may receive some principal if a bond matures or an equity is sold.
These are some disadvantages compared to the more familiar mutual fund.
Anyone buying into a mutual fund can add virtually any amount of money any time, an aid to those who are attempting to save on a routine basis. The trust, on the other hand, is fixed at the time the units are sold.
And any investor who receives principal along with income faces the problem of reinvesting these small periodic payments. Unless the investor does this, he or she could finish the life of the trust with the principal dissipated along with the income.
On the other hand, the investor sees the portfolio of the trust up front. It eliminates the danger that a new manager, or a push to boost the return, will steer the mutual fund into more risky ventures.
Unit investment trusts are as liquid as mutual funds, however, because you can redeem your units at any time. The institute said trusts are required by law to stand ready to buy back outstanding units at their current net asset value, which is based on the market value of the underlying securities - and may be more or less than the price you paid initially. In addition, there is a secondary market for some units where they may be bought or sold.
Unit investment trusts invest in a wide range of securities: municipal and corporate bonds, government securities, mortgage-back securities (such as Ginnie Maes and Freddie Macs), international bonds and stocks.
As a practical matter, about 80 percent of unit investment trusts are in tax-exempt municipal bonds. Thus most of them are aimed at people looking for tax-free income who are reluctant to buy individual municipal bonds.
Peter Milward, manager of the Roanoke office of J.C. Bradford & Co., said a trust is "a good safe structure," depending on the underlying securities.
Most of them are invested in AAA-rated municipal bonds, Milward said, are are thus "one of the very safest ways to invest for tax-free income." He said purchase of a unit usually gives the investor partial ownership of 10 to 15 top-rated municipal bonds.
Suzn Head, manager of the Roanoke office of Dean Witter Reynolds, said the trusts appeal to investors who don't want the burden of selecting stocks or bonds and who have relatively little money for savings. For as little as $1,000, Head said, people can get a share of 10 to 15 stocks or bonds. "That bring a lot of safety to the table" that you couldn't otherwise get for $1,000.
When bonds in a trust mature, the principal is returned to unit holders on a pro-rata basis. But the bonds also may be sold by the sponsor prior to maturity to meet unit redemptions or if the quality of the bond deteriorates. Or perhaps the issuers of some of the bonds may call them before maturity.
Thus a unit investment trust invested in bonds, as most of them are, self-liquidates over the long-term. By the time it reaches the date of expiration, investors normally will have received principal payments at least equal to the initial value of the units.
If the bonds are called at a premium price, the unit holders will make a profit in addition to their interest. Conversely, unit holders could lost some value if there is a default or if a bond is sold below face value prior to maturity.
Because the portfolios are not actively traded, unit holders do not face transaction costs to be deducted from the principal. But there is a sales charge at the time of initial purchase.
The offering price, or the price you pay to purchase units, reflects net asset value plus an up-front sales charge or load. Sales charges for long-term trust typically run about four or five percent of the total purchase amount. Some trusts might combine a smaller up-front sales charge with a deferred charge. Trusts charge an annual fee for operating expenses, but there is no ongoing marketing fee.
The Investment Company Institute, the national association of the investment company industry, offers a free booklet called "On Track With Unit Investment Trusts." You can obtain a copy by writing to: UIT Brochure, Investment Company Institute, P.O. Box 27850, Washington, D.C. 20038-7850.
by CNB